Concept of Most Favoured Nation (MFN) clause

The concept of Most-Favoured-Nation (MFN) is not new. Clauses of similar nature can be traced back to twelfth century2. The examples of early MFN clauses were the Treaty of Amity and Commerce between the United States and France (1778) and the Amity, Navigation and Commerce Treaty (Jay’s Treaty) between the United States and Great Britain (1794). However, most of these early clauses were often conditional and were generally based upon the principles of reciprocity.

The concept of MFN in its present form was for the first time introduced as Article 1 of The General Agreement on Tariffs and Trade (GATT) of 1947. However, as on date the concept of MFN is applicable to international trade involving goods, service5 and intellectual property.

Article 5 of the Draft Articles on Most-Favoured-Nation Clauses, 1978 defined the expression “Most-Favoured-Nation Treatment” in the following words:

“Most-favoured-nation treatment is treatment accorded by the granting State to the beneficiary State, or to persons or things in a determined relationship with that State, not less favourable than treatment extended by the granting State to a third State or to persons or things in the same relationship with that third State.”

Similarly, Article 4 of the Draft Articles on Most-Favoured-Nation Clauses, 1978 defined the expression "Most-Favoured-Nation Clause" in the following words:

“A most-favoured-nation clause is a treaty provision whereby a State undertakes an obligation towards another State to accord most-favoured-nation treatment in an agreed sphere of relations.”

Understanding Most Favoured Nation (MFN) Clause

India has entered into DTAA’s having an MFN clause with various countries. The Protocol to the DTAA’s with said countries (‘relevant DTAA’) provide that if under any DTAA between India and a third State (‘subsequent DTAA’), India limits its taxation to a lower rate or a more restricted scope than the rate or scope provided in the relevant DTAA, the same rate or scope as is applicable in the subsequent DTAA shall also apply under the relevant DTAA.

MFN clause is usually found in Protocols and Exchange of Notes to DTAAs. Once this clause is part of a treaty, the residents of contracting states get equal treatment as is being given to resident of other (third) states.

The intention of MFN clause in tax treaties is:

§  granting of lower rate on specified income and/or;

§  restricting the scope of income and/or;

§  other benefit in terms of allowance of expenses in case of business income

MFN clause, as forming part of protocol, is an integral part of the tax treaty. Dr. Klaus Vogel in his Commentary on Double Tax Conventions mentions-

“……As previously mentioned, (final) protocols and in some cases other completing documents are frequently attached to treaties. Such documents elaborate and complete the text of a treaty, sometimes even altering the text. Legally they are a part of the treaty, and their binding force is equal to that of the principal treaty text. When applying a tax treaty, therefore, it is necessary carefully to examine these additional documents”

A typical MFN clause in any Indian DTAA reads as under (reproduced from Protocol IV(2) of the India-Netherlands treaty –

“If after the signature of this convention under any Convention or Agreement between India and a third State which is a member of the OECD India should limit its taxation at source on dividends, interests, royalties, fees for technical services or payments for the use of equipment to a rate lower or a scope more restricted than the rate or scope provided for in this Convention on the said items of income, then as from the date on which the relevant Indian Convention or Agreement enters into force the same rate or scope as provided for in that Convention or Agreement on the said items of income shall also apply under this Convention.”

Thus, in view of the above, while examining the tax liability of Royalty / FTS under the relevant provisions of the DTAA, it would also be critical to examine whether the DTAA has an MFN clause or not.

Categories of Most Favoured Nation (MFN) clause

Most Favoured Nation (MFN)  Clause may be classified into two categories:-

(1)    Self operational :-

This kind of MFN Clause is applicable automatically and does not require a separate notification to bring it into force. MFN clause in the protocols of India-UK DTAA, India-Belgium DTAA, India-Sweden DTAA are some of the few DTAAs in which MFN Clause is self-operational.

(2)      Non self operational:-

This category of MFN Clause requires either of the two Government to issue notification for reduction in rate of tax or a reduction in the scope. If any one of Governments having a DTAA lowers the tax rate with third country subsequent to signing the DTAA with the first country then the one lowering the rate will have to inform its counterpart through diplomatic channels. After that both the Governments will undertake to review these articles and provide such lower rate to profits of the same kind obtained under similar circumstances by enterprises of both the countries. India- Philippines is a classic example of such kind of MFN Clause.

Points to be considered while applying the Most Favoured Nation (MFN)  clause:-

(i)   Type of Clause

At the time of applying MFN Clause a taxpayer needs to ascertain whether it is self operational or not. In the case of non-self operational MFN clause, only when the Government has issued the notification it may be applied however in the case of self-operational clause no separate notification is required.

(ii)  Date of agreement

Date of agreement is very important. This concept can be better understood with an example, for instance if state A enters into DTAA with state B and subsequently state A enters into DTAA with state C which has a more beneficial clause then state A can apply that favourable clause.

(iii)   OECD member

In the DTAAs it is usually given that the third state whose beneficial provision is being applied should be a member of OECD. Various courts have ruled that MFN clause is available if the third State becomes an OECD member after it entered into DTAA and is a member at the time when the MFN clause is being applied. Hence a country may become an OECD member after entering into DTAA in order to qualify for giving MFN benefit.

Thus, MFN clause can be applied at the time of computing tax liability or while withholding tax but taxpayer should consider all features of the MFN clause carefully to avoid penal consequences of incorrect tax payments.

Object of the Most Favored Nation (MFN) clause in a Tax Treaty

The object of the MFN clause in a Tax Treaty, inter-alia, is to provide an equal treatment to a tax treaty country as compared with a subsequent beneficial tax treaty signed with a third country.

Thus, the obvious reason behind introduction of MFN clauses is to ensure a level playing field and to ensure that residents of a particular country should not be treated less favourably in comparison to residents of other countries or a group of other countries.

MFN clause is a provision in a tax treaty under which one country agrees to accord to the other contracting state a treatment that is no less favourable than that which it accords to other or third states. Thus, the MFN clause promotes non-discrimination among countries and also tends to promote the objective of free trade in general.

In tax treaties, the MFN clause finds a place when countries were reluctant to forego their right to tax some elements of the income. An MFN clause can direct more favourable treatment available in other treaties only in regard to the same subject matter, the same category of matter, or the “same clause of the matter.

MFN Treatment is not a rule of general application and should be specifically contained in a tax treaty. In the context of tax treaties entered into by India under section 90 of the Act, MFN clause is generally negotiated as part of Protocol or Memorandum of Understanding to such tax treaty. Dr. Klaus Vogel in his Commentary on Double Taxation Conventions9 has explained the introduction of such clauses in the following words:

“During the negotiations a treaty text is drafted, initially only in one language. Negotiations results that are deemed less important or that only affect one side, or results that should be distinguished from the 'main text' of the treaty for other reasons, are often presented separately as an 'agreed protocol' or 'final protocol' or as an exchange of letters. Legally, however, these additional documents constitute elements of the treaty as such.”

Even though MFN clauses are introduced as part of Protocols or Memorandum of Understanding attached to tax treaties, yet ‘Legally they are a part of the treaty, and their binding force is equal to that of the principal treaty text'. The above explanation by Dr. Kalus Vogel was quoted with approval by Authority for Advance Ruling (AAR) in the case of Advance Ruling P. No. 28 of 1999. Dr. Klaus Vogel in his Commentary on Double Taxation Conventions has explained the enforceability of such Protocols or Memorandum of Understanding in the following words:

“As previously mentioned, (final) protocols and in some cases other completing documents are frequently attached to treaties. Such documents elaborate and complete the text of a treaty, sometimes even altering the text. Legally they are a part of the treaty, and their binding force is equal to that of the principal treaty text. When applying a tax treaty, therefore, it is necessary carefully to examine these additional documents.”

In the context of tax treaties, as a general rule, all agreements/instruments forming part of the tax treaty are important for the purposes of interpretation. The said rule of interpretation also finds support from Article 31 of the Vienna Convention on the Law of Treaties (entered into force on 27.01.1980.

MFN clauses are incorporated in tax treaties to ensure a level playing field and to ensure that residents of a particular country should not be treated less favourably in comparison to residents of other countries or a group of other countries. MFN clauses do form integral parts of tax treaties, even though they may be incorporated as part of Protocol or Memorandum of Understanding to a tax treaty.

MFN clause should be interpreted in good faith in accordance with the ordinary meaning to be given to the terms of the treaty in their context and in the light of its object. Therefore, applicability of MFN clause would depend upon the specific language used in the tax treaty. Any interpretation which may defeat the very object of negotiating or introducing a MFN clause will be in violation of the settled principles of treaty interpretation and should be avoided.

MFN clause links bilateral agreements by ensuring that the parties to one agreement are not subjected to a treatment which is less favorable than the treatment provided to other parties under similar agreements. In effect, a country that has been accorded MFN status may not be treated less advantageously than any other country with MFN status by the promising country.

In other words, MFN clause refers to a situation wherein two non-resident taxpayers are given impartial treatment by the source country. In DTAAs, MFN clauses find place when countries are reluctant to forgo their right to tax some elements of income.

An MFN clause can attract ‘more favorable treatment’ available in other treaties only in regard to the same “subject matter”, the same “category of matter” or the “same class of matter”. While the principle is clear, its application may not always be simple or consistent. This principle of ejusdem generis has been applied in the jurisprudence of international tribunals and national courts and by diplomatic practice.

Further, an MFN obligation exists only when a treaty clause creates it. Without a treaty obligation, each country retains the option of discriminating economically among foreign investors. A typical MFN clause in any Indian DTAA reads as under –

“In respect of Articles 10 (Dividends), 11 (Interest) and 12 (Royalties and Fees for Technical Services) if under any Convention, Agreement or Protocol between India and a third State which is a member of the OECD, India limits its taxation at source on dividends, interest, royalties, or fees for technical services to a rate lower or a scope more restricted than the rate or scope provided for in this Convention on the said items of income, the same rate or scope as provided for in that Convention, Agreement or Protocol on the said items of income shall also apply under this Convention.”

Legal Position

It is a settled position in law that the protocol is an indispensable part of the treaty with the same binding force as the main clauses therein. In his introduction to Double Taxation Conventions (Third Edition), Klaus Vogel, has clarified the role of a protocol and its role in interpreting a treaty. He says,

“Protocols and in some cases other completing documents are frequently attached to treaties. Such documents elaborate and complete the text of a treaty, sometimes even altering the text. Legally they are a part of the treaty, and their binding force is equal to that of the principal treaty text. When applying a tax treaty, therefore, it is necessary carefully to examine these additional documents”.

Many protocols signed by countries contain the Most Favoured Nation Clause (MFN close). Effect of the MFN clause is that one state binds itself to another state with respect to favourable treatment afforded by it in the future to a third state.

Example can be seen in India-Belgium DTAA. In the MFN clause Belgium has bound India that if India after the date of agreement with Belgium i.e. 01.01.1990 limits its taxation on Royalties or Fees for Technical Services (FTS) to a rate lower or more restricted scope with any other state, the same rate or scope shall also apply under the agreement with Belgium.

CBDT’s Clarification regarding applicability of MFN clause of Indian Double Taxation Avoidance Agreements (DTAAs or treaties) with OECD member states (or countries) [CBDT Circular No. 3/2022 dated 03.02.2022]

The CBDT has issued the Circular No. 3/2022 dated 03.02.2022 in light of several representations received, seeking clarity on the applicability of the MFN clause in the Protocol to India's DTAAs with certain countries; Clarifies that:

(i)               unilateral decree of a treaty partner does not represent a shared understanding on the applicability of the MFN clause,

(ii)             the third state should be the member of OECD on the date of conclusion of the DTAA with India,

(iii)           concessional rate or restricted scope to apply from the date of entry into force of the DTAA with the third state and not from the date on which such third state becomes an OECD member,

(iv)            as per SC ruling in Azadi Bachao Andolan, a notification u/s 90 is required and states that India has not issued any notification for importing the beneficial provisions from DTAAs with Slovenia, Lithuania & Colombia to the DTAAs with France, the Netherlands or Switzerland, and

(v)             import of concessional rates by invoking MFN clause cannot be done selectively and the benefit of lower rate or restricted scope of source taxation will available only when the conditions specified in the Circular are met

In the circular it has been clarified that the applicability of the MFN clause and benefit of the lower rate or restricted scope of source taxation rights in relation to certain items of income (such as dividends, interest income, royalties, Fees for Technical Services, etc.) provided in India’s DTAA with the third states (OECD Member) will be available to the treaty with an MFN clause (treaty with the first state) only when all the below conditions are met.

(i)   The second treaty (with the third State) is entered into after the signature/ Entry into Force (depending upon the language of the MFN clause) of the treaty between India and the first State;

(ii)  The second treaty is entered into between India and a State which is a member of the OECD at the time of signing the treaty with it;

(iii) India limits its taxing rights in the second treaty in relation to rate or scope of taxation in respect of the relevant items of income; and

(iv) A separate notification has been issued by India, importing the benefits of the second treaty into the treaty with the first State, as required by the provisions of sub-section (1) of Section 90 of the Income Tax Act, 1961. 

Further, the above Circular will not be applicable in case of taxpayers who have received a favorable decision by any court on the applicability of MFN clause.

CBDT Circular No. 3/2022, Dated 03.02.2022

Subject: Clarification regarding the Most Favoured Nation (MFN) clause in the Protocol to India’s DTAAs with certain countries- Reg.

The Protocol to India's Double Taxation Avoidance Agreements (DTAAs) with some of the countries, especially European States and OECD members (The Netherlands, France, the Swiss Confederation, Sweden, Spain and Hungary) contains a provision, referred to as the Most-Favoured-Nation (MFN) clause. Though each MFN clause in these DTAAs has a different formulation, the general underlying provision is that if after the signature/ entry into force (depending upon the language of the MFN clause) of the DTAA with the first State, India enters into a DTAA with another OECD Member State, wherein India limits its source taxation rights in relation to certain items of income (such as dividends, interest income, royalties, Fees for Technical Services, etc.) to a rate lower or a scope more restricted than the scope provided for those items of income in the DTAA with the first State, such beneficial treatment should also be extended to the first State.

2. The Central Board of Direct Taxes (CBDT) has received representations seeking clarity on the applicability of the MFN clause (particularly to dividend withholding rates) available in the Protocol to some of the DTAAs with OECD member States. India's DTAAs with countries, namely Slovenia, Colombia and Lithuania, provide for lower rate of source taxation with respect to certain items of income. However, these States were not members of the OECD at the time of the conclusion of their DTAAs with India and have become members of the OECD thereafter.

3. Reference is drawn to the decree issued by the Directorate General for Fiscal Affairs, International Fiscal Affairs, Netherlands (Decree No IFZ 2012/54M dated 28th February 2012) (hereinafter referred to as “the decree”), the French official bulletin of Public finances-Taxes (Bulletin Officiel des Finances Publiques-Impots) published by DGFIP on 4th November, 2016 (hereinafter referred to as lithe bulletin ") and the publication by the Federal Department of Finance, the Swiss Confederation on 13th August, 2021 (hereinafter referred to as “the publication”). The unilateral decree/bulletin of The Netherlands and France declare that the tax rate on dividends under their respective DTAAs with India stands modified under the MFN clause after India entered into a DTAA with Slovenia, which became a member of the OECD on 21st July, 2010. The DTAA has a lower tax rate of 5% if the holding is above 10%. It has been further stated in the decree/bulletin that the lower rate will be applicable retrospectively from the date Slovenia became member of the OECD. Similarly, the unilateral publication of the Swiss Confederation declares that the tax rate on dividends under their DTAA with India stands modified under the MFN clause after India entered into a DTAA with Lithuania and Colombia who became members of the OECD on 5th July, 2018 and 28th April, 2020 respectively. The publication further states that the lower rate of 5% will be applicable for holding above 10% retrospectively from 5th July, 2018 (i.e. date of Lithuania joining the OECD) and for dividends arising from qualified interests and portfolio dividends retrospectively from 28th April, 2020 (i.e. date of Colombia joining the OECD).

4. In view of the above-mentioned decree/bulletin/publication on interpretation of the MFN clauses and the representations received from the taxpayers and field formation seeking clarity, the CBDT hereby issues the following clarifications on the applicability of the M FN clause:

4.1 Unilateral decree/bulletin/publication do not represent shared understanding of the treaty partners on applicability of the MFN clause:

Both The Netherlands and France have passed the said decree/bulletin without having any bilateral consultation with India. Therefore, these decree/ bulletin do not represent the shared understanding of India and the respective treaty partners on the applicability of the MFN clause and have no binding force as far as interpretation of MFN clause in the respective treaties is concerned. At best these unilateral decree/bulletin only represent the views of the respective governments for providing relief from The Netherlands/France tax. Since these decree/bulletin were passed without any discussion with the Government of India, it would not have any effect on curtailing the tax liability that is payable to the Government of India under the respective tax treaty.

4.1.1 India has also communicated its position to The Netherlands and France that the decree/bulletin in question is not in accordance with the object and purpose enshrined in the respective DTAAs and that the lower tax rate in the India-Slovenia treaty cannot be imported into these treaties by virtue of the MFN clause as Slovenia was not a member of the OECD when India had entered into DTAA with it. Reliance on the mere fact that Slovenia is an OECD member State at the time of applicability of the MFN clause defeats the object and purpose of the MFN clause. There has been no response from The Netherlands and France to India's interpretation of MFN clause conveyed to them.

4.1.2 In the case of the Swiss Confederation, India has communicated its position that the benefits of India's DTAA with the third State cannot be imported into the India-Swiss DTAA unless the third State was a member of the OECD at the time of signing that treaty.

4.2 Conditionality for the third State being a member of the OECD on the date of conclusion of the DTAA: On a plain reading of the MFN clauses in India's DTAAs especially with respect to the abovementioned countries, it is clear that there is a requirement that the third State is to be a member of the OECD both at the time of conclusion of the treaty with India as well as at the time of applicability of MFN clause. Therefore, it is clarified that for applicability of the MFN clause, the third State has to be an OECD member State on the date of conclusion of DTAA with India.

4.3 Application of concessional rates/restricted scope from the date of entry into force of the DTAA with the third State and not from the date the third State becomes member of the OECD:

It may also be pointed out that the MFN clause in these DTAAs clearly states that the reduced rate takes effect from the date of entry into force of Indian DTAA with the third State. Thus, the declaration in the decree/bulletin/publication of The Netherlands, France and the Swiss Confederation to make the reduced rate effective from the date of the third State becoming member of DECD subsequent to entry into force of a DTAA is not in accordance with the relevant provision of the MFN clause in the Protocol. In fact, these countries could not have made it effective from the date of entry into force of Indian DTAA with the third State as the third State was not a member of the DECD on such date of entry into force. This makes it clear that the intention of the MFN clause in the Protocol of the DTAAs is not to give the benefit of India’s DTAA with the third State which was not a member of DECO when India entered into DTAA with it. In this regard, Hon'ble Supreme Court in the case of Ram Jethmalani & Others (writ petition civil no 176 of 2009) had observed that:

"61. This Court in Union of India v. Azadi Bachao Andolan approvingly noted Frank Bennion's observations that a treaty is really an indirect enactment, instead of a substantive legislation, and that drafting of treaties is notoriously sloppy, whereby inconveniences obtain. In this regard this Court further noted the dictum of Lord Widgery, c.J. that the words "are to be given their general meaning, general to lawyer and layman alike .... The meaning of the diplomat rather than the lawyer." The broad principle of interpretation, with respect to treaties, and provisions therein, would be that ordinary meanings of words be given effect to, unless the context requires or otherwise. However, the fact that such treaties are drafted by diplomats, and not lawyers, leading to sloppiness in drafting also implies that care has to be taken to not render any word, phrase, or sentence redundant, especially where rendering of such word, phrase or sentence redundant would lead to a manifestly absurd situation, particularly from a constitutional perspective. The government cannot bind India in a manner that derogates from Constitutional provisions, values and imperatives.  (emphasis supplied)

Thus, one cannot ignore the clear wording of the MFN clause which mandates the application of lower rate from the date of entry into force of the Indian DTAA with the third State. All three countries have in effect through their unilateral decree/bulletin/publication made this part of the MFN clause redundant which according to the above Indian Supreme Court judgment cannot be done. The above-mentioned decree/bulletin/publication have no application so far as taxation liability of a person in India is concerned .

4.4 Requirement of notification under Section 90 of the Income-tax Act, 1961:

Further, it is a domestic requirement in India under sub-section (1) of section 90 of the Income-tax Act, 1961 that DTAA or amendment to DTAA are implemented after its notification in the Official Gazette. In the famous case of Azadi Bachao Andolan (2004,10 SCC) as well, Hon’ble Supreme Court of India has observed that the DTAA provisions come into force on the date of issue of notification of such DTAA. Hon'ble Supreme Court also made it clear in the judgment that the beneficial provision of sub-section (2) of section 90 springs into operation once the notification is issued. The relevant extract of that judgment reads as under:

A survey of the aforesaid cases makes it clear that the judicial consensus in India has been that section 90 is specifically intended to enable and empower the Central Government to issue a notification for implementation of the terms of a double taxation avoidance agreement. When that happens, the provisions of such an agreement, with respect to cases to which where they apply, would operate even if inconsistent with the provisions of the Income-tax Act. We approve of the reasoning in the decisions which we have noticed. If it was not the intention of the legislature to make a departure from the general principle of chargeability to tax under section 4 and the general principle of ascertainment of total income under section 5 of the Act then there was no purpose in making those sections “subject to the provisions of the Act”. The very object of grafting the said two sections with the said clause is to enable the Central Government to issue a notification under section 90 towards implementation of the terms of the DTAs which would automatically override the provisions of the Income- tax Act in the matter of ascertainment of chargeability to income tax and ascertainment of total income, to the extent of inconsistency with the terms of the DTAC. ........ .................... ........................................... This Court is not concerned with the manner in which tax treaties are negotiated or enunciated; nor is it concerned with the wisdom of any particular treaty. Whether the Indo-Mauritius DTAC ought to have been enunciated in the present form, or in any other particular form, is none of our concern. Whether section 90 ought to have been placed on the statute book, is also not our concern. Section 90, which delegates powers to the Central Government, has not been challenged before us, and, therefore, we must proceed on the footing that the section is constitutionally valid. The challenge being only to the exercise of the power emanating from the section we are of the view that section 90 enables the Central Government to enter into a DTAC with the foreign Government. When the requisite notification has been issued thereunder, the provisions of sub-section (2) of section 90 spring into operation and an assessee who is covered by the provisions of the DTAC is entitled to seek benefits thereunder, even if the provisions of the DT AC are inconsistent with the provisions of Income-tax Act 1961." (emphasis supplied)

4.4.1 It may be noted that India has not issued any notification importing the benefit of treaties with Slovenia, Lithuania and Colombia to treaties with The Netherlands, France or the Swiss Confederation.

4.5 No selective import of concessional rates under MFN clause:

Without prejudice to the above discussion, it may be further noted that some jurisdictions have been selective in invoking and applying the MFN clause, which the provisions of the treaty, read with the Rules of interpretation of international treaties do not permit. India's treaties with Slovenia and Lithuania consist of a split rate of tax for dividends. Article 10(2} of the India-Lithuania treaty is being reproduced here:

“However, such dividends may also be taxed in the Contracting State of which the company paying the dividends is a resident and according to the laws of that State, but if the beneficial owner of the dividends is a resident of the other Contracting State, the tax so charged shall not exceed:

(a) 5 per cent of the gross amount of the dividends if the beneficial owner is a company (other than a partnership) which holds directly at least 10 per cent of the capital of the company paying the dividends;

(b) 15 per cent of the gross amount of the dividends in all other cases.

A plain reading of the above extract leads to the inference that the beneficial rate of 5% on Dividend income is applicable only if the company (other than a partnership) receiving the dividends holds directly at least 10% of the capital of the company paying the dividends. The same was also communicated to the authorities of The Netherlands, France and the Swiss Confederation. Even though The Netherlands, France and the Swiss Confederation have taken this into account in their decree/bulletin/publication by providing that the rate of 5% will be applicable only when the condition of 10% ownership is satisfied, there is no sound rationale/basis provided for the selective import on account of not switching to 15% tax rate in other cases. The concern expressed by India to these countries, on this issue, has remained unaddressed.

5. In view of the above, it is hereby clarified that the applicability of the MFN clause and benefit of the lower rate or restricted scope of source taxation rights in relation to certain items of income (such as dividends, interest income, royalties, Fees for Technical Services, etc.) provided in India's DTAAs with the third States will be available to the first (OECD) State only when all the following conditions are met:

(i)    The second treaty (with the third State) is entered into after the signature/ Entry into Force (depending upon the language of the MFN clause) of the treaty between India and the first State;

(ii)   The second treaty is entered into between India and a State which is a member of the OECD at the time of signing the treaty with it;

(iii)  India limits its taxing rights in the second treaty in relation to rate or scope of taxation in respect of the relevant items of income; and

(iv)   A separate notification has been issued by India, importing the benefits of the second treaty into the treaty with the first State, as required by the provisions of sub-section (1) of Section 90 of the Income Tax Act, 1961.

If all the conditions enumerated in Paragraph 5(i) to (iv) are satisfied, then the lower rate or restricted scope in the treaty with the third State is imported into the treaty with an OECD State having MFN clause from the date as per the provisions of the MFN clause in the DTAA, after following the due procedure under the Indian tax law.

6. Notwithstanding the clarification given in the above paragraphs, where in the case of a taxpayer there is any decision by any court on this issue favourable to such taxpayer this Circular will not affect the implementation of the court order in such case.

Services for installation & commissioning of dryer fans, not FTS; CBDT’s MFN Circular, prospective

Mumbai ITAT holds that payment made to Belgium based sub-contractor towards supervision, installation and commissioning services for dryer fans cannot be considered as FTS under Article 12(4) of India-Belgium DTAA due to non-fulfilment of ‘make available’ condition, allows invocation of Most Favoured Nation (MFN) Clause under India-Portugal DTAA and accordingly, deletes disallowance under Section 40(a)(i); Rejects Revenue’s reliance on CBDT Circular No. 3/2022 dated 03.02.2022 and observes that the Circular cannot have a retrospective effect and thus is not applicable to subject Assessment year; Assessee, a tax resident of Germany with a PE in India, made a payment of Rs. 17.13 Cr to a Belgium based sub-contractor named Compagine Belge De Ventilateurs S.A. (CBV) towards commissioning and installation services of dryer fans by adopting restrictive definition of FTS in terms of India-Portugal DTAA and consequently, did not deduct tax at source; Revenue held that Assessee received managerial, technical and consultancy services from CBV which falls within the ambit of FTS in terms of Article 12(4) of India-Belgium DTAA and DRP confirmed Revenue's view; ITAT relies on coordinate bench ruling in GRI Renewable Industries S.L. v. ACIT (ITA No.202/Pun/2021 dated 15.02.2022) (Pune ITAT) wherein it was held that CBDT Circular No. 3 of 2022 dated 03.02.2022 specifying the need for a separate notification for importing the beneficial treatment from another DTAA cannot have a retrospective effect and accordingly, cannot be invoked for the relevant Assessment year; Observes that the Assessee has not been found to have ‘made available’ any technical knowledge experience or knowhow and therefore, cannot be taxed as FTS; Relies on coordinate bench ruling Essity Hygiene & Health v. DCIT (ITA No.778/Mum/2021) dated 10.06.2022 (ITAT Mumbai) wherein it was held that there is no requirement of separate notification for importing the beneficial treatment from the agreement; Accordingly, holds that Assessee is entitled to claim the benefit of the restricted definition under India-Portugal DTAA and the services cannot be considered as FTS. [In favour of assessee] (Related Assessment year : 2018-19) – [Dieffenbacher GmbH v. ACIT  [TS-147-ITAT-2023(Mum)] – Date of Judgement : 16.03.2023 (ITAT Mumbai)]

 

IT & SAP support not FTS; Follows Steria ruling to invoke MFN in India-Israel DTAA

Delhi ITAT holds that fees received by Israeli company (Assessee) from its Indian subsidiary towards information technology and SAP support services is not in the nature of FTS under Article 13 of India-Israel DTAA due to non-fulfilment of ‘make available’ condition; Allows invocation of MFN clause and applies restrictive provision of FTS as contained in India-Portugal and India-Canada DTAAs; Relies on jurisdictional High Court ruling in Steria (India) Ltd. v. CIT (2016) 72 taxmann.com 1 (Del.) and observes that DTAA provisions are subject to the Protocol without a separate notification, thus, rejects Revenue's stand that in absence of notifications issued by both the nations for invoking MFN, it cannot be applied automatically; Assessee, a tax resident company of Israel, entered into an international transactions of Rs. 1.07 Cr pertaining to provisions of IT and SAP services with its Indian subsidiary which was held to be taxable as FTS by the Revenue on the basis that Article 13 of India-Israel DTAA does not contain make available clause; DRP accepted Assessee’s claim that as per protocol of India-Israel DTAA more restrictive definition of FTS, make available condition stipulated in other DTAA’s such as India-Canada would be applicable, however, upheld the addition on the premise that ‘make available’ condition stands satisfied, thus, the said receipts were FTS; Before ITAT, Assessee contended that while rendering IT and SAP support services, it had not ‘made available’ any technical knowledge, know how skills to its Indian Subsidiary and the amount received from subsidiaries were in nature of reimbursements on cost to cost basis and accordingly cannot be treated as FTS; Revenue contended that MFN clause as per protocol to India-Israel DTAA cannot be borrowed from DTAA with third country in absence of notification issued by both the nations; ITAT observes that Assessee procures SAP licenses for group entities (including its Indian Subsidiary) and the cost incurred on SAP licenses is recharged to group entities on cost to cost basis; Observes that Protocol to India-Israel DTAA with reference to Article 12 and 13 clearly provides that if under any convention or agreement between India and third state which came into effect on or after Jan 01, 1995, India limits its taxation rights then such restricted rate or scope as provided for in that DTAA will apply to India-Israel DTAA; Observes that Assessee provides SAP support services on a recurring basis in terms of the agreement and the said fact has not been disputed by Revenue; Rejects Revenue’s contention and observes that Assessee had not made available technical knowledge, experience, skill know-how which could have enabled the recipient of such services to apply technology independently and without any assistance of the Assessee; Observes that once Assessee placed on record the agreement and other details of nature of services to substantiate that the said services did not ‘make available’ any technical knowledge, know-how and skill, the burden shifts on the Revenue to disprove such claim through cogent material, however, no such cogent material brought on record to discharge the onus; Accordingly, deletes addition made by Revenue by taxing it as FTS. [In favour of assessee] (Related Assessment year : 2011-12) – [Netafim Ltd. v. DCIT (International Taxation) [TS-70-ITAT-2023(DEL)] – Date of Judgement : 20.02.2023 (ITAT Delhi)]

NOTE

Revenue’s challenge against Delhi High Court ruling in Steria (India) is being heard by the Supreme Court in the batch of appeals involving the scope and operation of MFN Clause.

Dividend received by a Switzerland based company from Indian company- Lower withholding tax rate of 5 per cent instead of 10 per cent in view of MFN clause

Assessee filed an application under section 197 before Assessing Officer seeking to issue a certificate authorising assessee to receive dividend income from an Indian company subject to lower withholding tax rate of 5 per cent as applicable under India-Switzerland DTAA read with protocol and Most Favoured Nation (‘MFN’) clause. Application was rejected and directed to deduct tax at rate of 10 percent. On writ the Court held that the dividend received by a Switzerland based company from Indian company will bear a lower withholding tax rate of 5 per cent instead of 10 per cent in view of MFN clause and DTAA between India and Switzerland and therefore, certificate prescribing rate of 10 per cent was to be set aside and a certificate under section 197 would be issued in favour of assessee indicating rate of tax on dividend as applicable upon assessee at 5 per cent. - [Cotecna Inspection SA v. ITO (2022) 286 Taxman 342 (Del.)]

Invokes MFN Clause to hold management support services not taxable as FTS under India-Belgium DTAA

Delhi ITAT holds management support services as not FTS under India-Belgium DTAA, invokes MFN Clause by resorting to make available clause prescribed in India-UK DTAA; Assessee, a Belgium based company, engaged in providing management support services including, administration, management, marketing and sale etc., received Rs. 1.53 Cr, for Assessment year 2016-17, from its Indian subsidiary for provision of the said services; Assessee filed its return of income for the relevant Assessment year declaring NIL income and submitted that the Assessee’s receipts from Indian subsidiary for providing management support services is not taxable in India, as per India-Belgium DTAA; Revenue held that the receipts in question are taxable as FTS under the provision of Section 9(1)(vii) and India-Belgium DTAA read with India-UK DTAA and accordingly taxed the same at 15% on gross basis; CIT(A) partly accepted Assessee’s claim by attributing 50% of the amount received to FTS, holding the 50% of the services provided to be in the nature of consultancy services; Aggrieved, Assessee preferred the present appeal; ITAT observes that the India-Belgium DTAA allows taxation of receipts for managerial services as FTS, however the Protocol to India-Belgium DTAA under the MFN Clause provides that if India has entered into a DTAA with a member of OECD countries as where the taxation is limited to a rate lower or a more restricted scope then the restrictive rate or scope of the other DTAA shall be applicable to India-Belgium DTAA; Notes that the Revenue has accepted Assessee’s claim of applicability of MFN clause under the Protocol of India-Belgium DTAA; States that the scope and meaning of FTS under India-UK DTAA has to be considered in order to decide Assessee’s tax liability, as per the MFN clause; ITAT notes that the Assessee has no power or authority to conclude or accept contracts on behalf of the customer while rendering services; Thus, opines that the scope of services to be rendered by the Assessee does not indicate that they are anything other than managerial services as it aids and assists the Indian subsidiary for performing its day to day business activity; Explains that, “Once the assessee was able to demonstrate that the amount received is in the nature of managerial services, it cannot be treated as FTS in view of the restrictive meaning of FTS under Article 13(4) of India-UK tax treaty, which specifically excludes managerial services”; Observes that, even assuming a part of the services provided by the Assessee are in the nature of consultancy services, as held by CIT(A), the same does not satisfy the make available condition, as it does not amount to imparting of technical knowledge, skill, knowhow, etc. which enables the recipient of service to apply such technical knowledge, experience, skill, knowhow etc. independently as per Article 13(4)(c) of India-UK DTAA. [In favour of assessee] (Related Assessment year 2016-17) – [Wolters Kluwer Financial Services Belgium NV, Gurgaon v. DCIT(International Taxation) [TS-1034-ITAT-2022(DEL)] – Date of Judgement : 28.12.2022 (ITAT Delhi)]

MFN Clause in Protocol integral to DTAA, effective even without specific notification

Delhi ITAT dismisses Revenue’s appeal and upholds CIT(A) order holding that the management charges are not taxable in India under the provisions of Article 13 of India France DTAA  read with Article 13 of India-UK DTAA, by virtue of the provision of most favoured nation under the Protocol 7 of India-France DTAA; Further holds that the DTAA provisions are subject to the Protocol without a separate notification for enforcing the provisions of the protocol; Assessee, a France based company, engaged in the electrification business, a part of GE Power Conversion, received management support service charge of Rs. 5.57 Cr from Indian entities, namely, GE Power Conversion India (P) Ltd. and Converteam EDC (P) Ltd.; Assessee submitted that it did not offer the said management charges to tax in India since the same is not taxable in India, by virtue of Article 13 of India-France DTAA read with the Protocol and Article 13 of India-UK DTAA that prescribes the most favoured nation (MFN) clause that restricts the scope of taxation of fees for technical services (FTS); Revenue held that the Protocol could not be treated as forming part of the DTAA unless there is a notification issued by the Government to incorporate the less restrictive provisions of the other treaty available and opined that the support services provided by the Assessee to Indian entities are in the nature of FTS and accordingly made the addition; CIT(A) held that the amount received by the Assessee during the year for provision of management support services shall not be taxable as FTS under the DTAA since the make available test imported from India-UK DTAA into the India-France DTAA had not been satisfied; On Revenue’s appeal ITAT observes that the Protocol to a DTAA is an indispensable part of a DTAA with the same binding force as the main clauses of the DTAA; Opines, “the provisions of the tax treaty are, therefore, required to be read with the Protocol and are subject to the provisions contained in such protocol without there being a need of a separate notification for enforcing the provisions of the protocol”, by relying on jurisdictional High Court ruling in Steria (India) Ltd. v. CIT (2016) 386 ITR 390 (Del.) wherein it was held that MFN clause of the Protocol to India-France DTAA forms an integral part of the DTAA and applies automatically without any further notification; [In favour of assessee] (Related Assessment year : 2015-16) – [DCIT v. Converteam Group [TS-779-ITAT-2022(DEL)] – Date of Judgement : 23.09.2022 (ITAT Delhi)]

Dutch entity not liable to TDS on interest on tax-refund; Invokes MFN Clause to extend benefit under India-Italy DTAA

Kolkata ITAT holds that income-tax refund paid to the Netherlands-based company (parent of Philips Group) under Section 244A(1)(a) is not liable to TDS by virtue of beneficial provision of Article 11 of India-Italy DTAA read into Article 12 of India-Netherlands DTAA by resorting to MFN Clause under the Protocol thereof; ITAT observes that interest on income-tax refund is debt claim under India-Italy DTAA as interpreted by Madras High Court in Ansaldo Energio SPA v. CIT (2016) 384 ITR 312 (Mad.) and relies upon Delhi High Court rulings in Steria (India) Ltd. v. CIT in W.P.(C) 4793/2014 and CM Appl. 9551/2014 dated 28.07.2016 and Concentrix Services Netherlands v. ITO TDS in Appeal No. WP(C) No.9051/2020 dated 22.04.2021 and Karnataka High Court ruling in Apollo Tyres Ltd. v. CIT (2018) 92 taxmann.com 166 (Karn.) apart from the coordinate bench ruling in DCIT v. ITC Ltd. (2002) 82 ITD 239 (ITAT Kolkata) to extend benefit of DTAA with Italy which was entered into after India entered into the DTAA with the Netherlands; ITAT observes, “the beneficial provisions available to the assessee under the India-Italy Treaty on the aspect of taxability of interest as in the present case will get force of attraction and becomes available into the India-Netherlands DTAA by virtue of MFN clause under the said Protocol. Thus, by harmonious reading of the two treaties it follows that the beneficial provision of the India-Italy DTAA will be imported into the reading of India-Netherlands DTAA resulting into accrual of benefit to the assessee.”; ITAT also reiterates the legal position that a Protocol to DTAA is its integral part and  carries the same binding force as the MFN clause therein; ITAT exposits that DTAAs are the agreements between the two sovereigns based on negotiations which are for reciprocatory and mutual benefits and by MFN Clause in the Protocol to the India-Netherlands Treaty, the India and the Netherlands have negotiated for a more restrictive scope of taxation on certain incomes including interest; Therefore, holds that interest on income tax refund would be a non-taxable sum by virtue of being a ‘debt claim’ from the Government of India; Separately, ITAT also holds that interest under Section 244A(1A) is payable on delay in passing the appeal effect order pursuant to ITAT’s order and it is payable upto the date of receipt of the refund voucher and not only upto the date of order giving effect to the appellate order. [In favour of assessee] (Related Assessment years : 2008-09 to 2012-13) – [Koninklijke Philips N.V v. DCIT [TS-699-ITAT-2022(Kol)] – Date of Judgement : 02.09.2022 (ITAT Kolkata)]

Remands issue of taxability of sum received from Hutch as royalty; Considers Assessee’s MFN Clause plea

Bangalore ITAT remands the issue of taxability of sum received from Hutch against services provided by Assessee for de novo consideration; Revenue, for AY 2008-09, observed that the Assessee-Company, tax resident of Belgium, provided services specified to Hutch as specified in Carrier Service Agreement (CSA) from outside India, in lieu of which consideration was received from Hutch without deduction of tax and accordingly, Revenue initiated reassessment proceedings on the Assessee; Revenue passed the draft assessment order treating the sums received by the assessee as ‘royalty’ under the Act as well as the DTAA; Before the ITAT, Assessee submitted that the payments received by the Assessee on account of services rendered to Hutch cannot be brought to tax in view of the principle of most favoured nation (MFN) clause contained in Protocol to India-Belgium DTAA read in the light of Protocol attached to India-Hungary DTAA and India-Greece DTAA, unless there is a ‘right to use secret process’ by Hutch in India; Further Assessee submitted that interpretation of the term, ‘process’ under Explanation 6 cannot be read into DTAA as the term used in DTAA under Article 12(3) is, ‘secret process’ and the term, ‘secret process’ as per DTAA is a valuable right, the consideration for which is to be regarded as ‘royalty; Assessee placed reliance upon recent Delhi ITAT ruling in BT Global Communications India (P) Ltd. reported in TS-209-ITAT-2022.; ITAT observes that Assessee did not raise the aforesaid arguments before the Revenue earlier, thus remands the issue back to Revenue for de novo consideration; Directs Revenue to consider the issue based on the above recorded arguments and keeping in mind the principle laid down by Supreme Court ruling in Engineering Analysis Center of Excellence (P) Ltd. v. CIT reported in (2021) 432 ITR 471 (SC). that domestic law cannot be read into treaties unless the treaties are amended bilaterally, with due opportunity granted to the Assessee. (Related Assessment year : 2008-09) – [Belgacom International Carrier Services SA v. DCIT [TS-380-ITAT-2022(Bang)] – Date of Judgement : 26.04.2022 (ITAT Bangalore)]

Perfetti’s receipts from subsidiary for Information & Communication Technology services, not FTS; Invokes MFN Clause in India-Netherlands DTAA

Delhi ITAT allows Assessee’s appeal, holds that fees for providing Information & Communication Technology (ICT) service to Indian subsidiary is not FTS as the make available clause read into India-Netherlands DTAA from India-Portugal DTAA by invoking MFN clause was not satisfied; Assessee-Company incorporated in the Netherlands and engaged in the business of rendering services in confectionery industry, received ICT service charge and Regional Support Office (RSO) cross charges amounting to Rs. 0.91 Cr. and Rs. 2.78 Cr., respectively from its Indian subsidiary; For Assessment year 2017-18, Revenue held the charges to be  taxable as FTS under Article 12 of the India-Netherlands DTAA, which was confirmed by DRP; ITAT notes that DRP rejected Assessee’s submission that the ICT services does not relate to transfer of any technical knowledge, experience skill, know-how or processes or transfer of any technical plan or design, further notes that Assessee also invoked MFN clause in India-Netherlands DTAA and contended that the scope of FTS is restricted in the India-Portugal DTAA as it requires that the services should enable the person acquiring the services ‘to apply the technology contained therein’ and thus routine advisory and consultancy services could not be construed as FTS; ITAT notes DRP’s finding that the phrase “to apply the technology contained therein” in Article 12(4)(b) applied “only to second limb of the provision namely development and transfer of a technical plan or technical design. The phrase ‘technology contained thereon’ would have meaning only in respect of the technical plan / design containing the same. Attributing the phrase to the first limb of the provision which includes diverse aspects such as experience/ skill would lead to an absurd interpretation.”; ITAT relies on Mumbai ITAT ruling in SCA Hygiene Products AB v. DCIT in ITA No. 7315/Mum/2018 (ITAT Mumbai) order dated 08.01.2021 wherein it was held that payment received by the Swedish company for providing Information Technology services was held not taxable as FTS, by applying restrictive provision of FTS provided in India-Portugal DTAA by invoking MFN clause under India-Sweden DTAA; Highlights that Mumbai ITAT observed that it is not merely engineering or architectural designs which are contemplated under Article 12(4)(b) of India-Portugal DTAA but also development and transfer of any technical plan or technical design where technical does not mean technological but only means specialized - the area may be finance, legal, commerce, arts, science or project implementation; ITAT observes that the issue in Assessee’s case to be squarely covered by Mumbai ITAT ruling and in the absence of any change in the material facts and legal proposition holds it applicable to Assessee's case ; Separately on the issue of taxability of reimbursement for SAP software and Microsoft License fees, holds the issue is to be covered by Supreme Court ruling in Engineering Analysis Centre of Excellence (P) Ltd . (CA No. 8733-8734 of 2018)., holds the receipt not in the nature of royalty thus, not liable to be taxed u/s 9(1)(vi). – [Perfetti Van Melle ICT & BV v. ACIT [TS-145-ITAT-2022(DEL)] – Date of Judgement : 28.02.2022 (ITAT Delhi)]

CBDT Circular on MFN Clause transgresses Section 90(1), neither binding on ITAT nor retrospective

Pune ITAT holds that CBDT Circular No. 3 of 2022 dated 03.02.2022 specifying the need for a separate notification for importing the beneficial treatment from another DTAA cannot have a retrospective effect; Observes that once DTAA is notified all its integral parts, including Protocol, get automatically notified and there remains no need to again notify the individual limbs of the DTAA; On analysis of the Circular, ITAT observes that, “it becomes ostensible that the CBDT has mandated the issuance of a separate notification for importing the benefits of a treaty with second State into the treaty with the first State” by relying on provisions of Section 90(1); Further observes that the Circular specifying the need for a separate notification for importing the beneficial treatment from another DTAA as a corollary of Section 90(1) overlooks the plain language of the provision in juxtaposition to the language of the Protocol, which treats the MFN clause an integral part of the DTAA; Opines that it is trite law that a CBDT Circular is binding on the Assessing Officer and not on the assessees or the ITAT or other appellate authorities and the Circular transgressing the boundaries of section 90(1) cannot bind the ITAT; Observes that the Circular attaches a new disability of a separate notification for importing the benefits of a DTAA with the second State into the treaty with first State, thus, cannot operate retrospectively to the transactions taking place in any period prior to its issuance; The appeal before ITAT pertained to Assessment year 2016-17 and involved invocation of MFN clause under the Protocol to India-Spain DTAA by resorting to India-Portugal DTAA for taxability of royalty/FTS at a lower rate or 10%. [in favour of assessee] (Related Assessment year : 2016-17) – [GRI Renewable Industries S.L v. ACIT, Pune [TS-79-ITAT-2022(PUN)] – Date of Judgement : 15.02.2022 (ITAT Pune)]

Most Favourable Nation clause – Applied automatically – No separate notification.- Not assessable as fees for technical services

The assessee provided consulting services on actual cost based charges and information technology services to the Indian subsidiary. The assessee submitted that payments would not constitute ‘fees for technical services’ as the services would not “make available” the recipient to perform the services in the future, as provided under the “Most Favoured Nation” clause (MFN clause) in India -Sweden Tax treaty, read with India Portugal DTAA. The Assessing Officer denied the benefits of the MFN Clause under India – Sweden tax treaty was not notification.

The Tribunal held that the MFN clause in the Indo-Swedish tax treaty is a situation in which limiting the source taxation, for fees for technical services, to any other OECD member jurisdiction, by itself, is enough to trigger that the same provisions. No further actions on India’s part are envisaged in the Indo-Swedish tax treaty to trigger the application of the same provisions in the Indo Portugal tax treaty (no requirement to issue separate notifications). Portugal is an OECD jurisdiction, and India has entered the tax treaty after Sweden. The Portuguese tax treaty provides a far more restricted scope of ‘fees for technical services’, since it adopts the ‘make available’ clause, which restricts the taxation of fees for technical services only in such cases which “make available” technical knowledge, experience, skill, know-how or processes. The services provided does not enable the recipient of these services to perform the same services, in the future, without recourse to the assessee, thus cannot be considered as FTS. [In favour of assessee] (Related Assessment year : 2015-16) – [SCAHygiene Products AB v. DCIT (2021) 209 TTJ 545 : 197 DTR 401 : 187 ITD 419 : 123 taxmann.com 152: 85 ITR(T) 607 (ITAT Mumbai)]

Merely because applicant had raised question regarding advantage of DTAA or Most Favoured Nation clause in respect of withholding on dividend payable to tax non - resident shareholder, it could not be considered as a transaction designed to avoid tax and therefore application under section 245R(2) was to be admitted

Applicant filed an application seeking advance ruling on application of beneficial provision of DTAA in respect of withholding tax on dividend payable to non-resident shareholder. Revenue submitted that transaction was designed prima facie for avoidance of tax. However, revenue had not made out a case as to how transaction was designed prima facie for avoidance of tax. No design to avoid tax by any illegal or improper means was found. Merely because applicant had raised question regarding advantage of DTAA or Most Favoured Nation clause in respect of withholding tax on dividend payable to non-resident shareholder, it could not be considered as a transaction designed to avoid tax. Therefore, application was to be admitted under section 245R(2). – [Philips India Ltd., In re (2021) 279 Taxman 329 : 125 taxmann.com 181 (AAR - New Delhi)]

Export commission not FTS under India-France DTAA; Invokes MFN Clause, follows Steria ruling

Delhi ITAT allows Assessee’s appeal, holds that export commission paid to agent in France not taxable as Fee for Technical Services due to non-fulfilment of ‘make available’ clause read into India-France DTAA from India-UK DTAA by invoking the ‘most favoured nation’ clause; Assessee (Rajinder Kumar Aggarwal (HUF)), engaged in the business of manufacturing and export of leather footwear in the name of proprietary concern ‘Regency Impex’ appointed M/s Ace Trading Company, France for assistance in procuring export orders in France; For Assessment year 2012-13, the Assessee debited a sum of Rs. 1.16 Cr. as commission paid on export sales without deducting tax at source under section 195 due to which the expenditure was disallowed by the Revenue under section 40(a)(i) by holding that under section 9(i)(vii) the scope of FTS includes services rendered outside India also when utilized in India insofar as source of payment towards expenditure is in India; The disallowance was upheld by CIT(A) whereas ITAT finds that the French agent was engaged for procuring export order for the Assessee in the territory of France and commission was paid on the export sales for order procured through the French agent on the basis of agreement entered into every year where the scope of the services remained same and for Assessment year 2010-11, the coordinate bench had dismissed Revenue’s the appeal challenging the deletion of disallowance under section 40(a)(i) following the jurisdictional High Court ruling in DIT (International Taxation) v. Panalfa Autoelektrik Ltd. (2014) 49 taxmann.com 412 (Del.); ITAT relies on the jurisdictional High Court ruling in Steria (India) Ltd. v. CIT (2016) 72 Taxmann.com (1) (Del.) where it was held that Most Favoured Nation (MFN) clause of the Protocol to India-France DTAA forms an integral part of the DTAA and applies automatically without any further notification and thus, refers to India-UK DTAA where FTS provides for ‘make available' clause; ITAT, in view of the MFN clause, holds that the entire definition of the FTS under the India-UK DTAA can be imported for the interpretation of FTS under India-France DTAA, therefore, holds that ‘make available clause’ needs to be satisfied which does not get satisfied in the present case since the services rendered by the French agent gives no knowledge to the Assessee that could be further exploited; Hence, holds that export commission is not chargeable to tax in India due to which no tax was deductible on the payments made to the French agent, therefore, deletes the disallowance u/s 40(a)(i). – [Rajinder Kumar Aggarwal (HUF) v. DCIT [TS-976-ITAT-2021(DEL)] – Date of Judgement : 14.10.2021 (ITAT Delhi)]

NR’s revision petition under section 264 seeking tax refund by invoking MFN clause, maintainable

Delhi High Court rules that assessee’s [a Company based in Spain] petition under section 264 seeking revision of ‘intimation’ under section 143(1) was maintainable, directs Revenue to permit assessee to revise its return and further refund the excess tax paid by assessee with interest; During Assessment year 2014-15, assessee had offered FTS income earned from its Indian counterpart in its return of income on which tax @ 20% was paid as per Article 13 of India-Spain DTAA, such return was processed under section 143(1) by Assessing Officer, however, in view of the Most Favored Nation [MFN] clause [which provided for further concessional rate of 10%]  coming into light of assessee subsequently, assessee filed petition under section 264 seeking revision of intimation and consequential grant of refund of excess tax paid; Rejects CIT’s view that the revision petition was not maintainable as no amount was payable by assessee in terms of the intimation under section 143(1) and therefore no prejudice was caused to assessee in terms thereof; Firstly, High Court remarks that Even though, this extra 10% paid by the Petitioner was of its own volition, it was indeed prejudicial to the Assessee/Petitioner.”;  Next, High Court relies on co-ordinate bench ruling in Vijay Gupta v. CIT (2016) 68 Taxman.com 131 (Del.) wherein it was held that an intimation under section 143(1) is regarded as an 'order' for the purpose of Section 264 and hence assessee’s revision petition was maintainable; Also, High Court reprimands CIT for having declined to follow the jurisdictional High Court ruling in Steria (India) Ltd. v. CIT (2016) 72 Taxmann.com (1) (Del.) which had granted MFN clause benefit to assessee therein. [In favour of assessee] (Related Assessment year : 2014-15) – [Epcos Electronic Components S.A v. Union of India [TS-401-HC-2019(DEL)] – Date of Judgement  10.07.2019 (Del.)]

Tax Court of South Africa applies Double Dip Theory while interpreting most Favoured Nation Clause

The taxpayer was a company registered and a tax resident of South Africa. The owner of all its shares was a Dutch tax resident company. In 2012, the South African subsidiary paid dividend to the Dutch parent after withholding tax thereon at the rate of 5% as per South Africa – Netherlands tax treaty. With respect to the subsequent dividend declared in March 2013, the Dutch parent took a view that dividend tax rate is 0% as per Article 10(10) of South Africa – The Netherlands tax treaty and accordingly, asked the taxpayer for nil withholding on dividend income.

In 2014, the taxpayer requested a refund for the taxes so withheld in 2012 on the dividend income paid by it to the Dutch resident by invoking the MFN clause contained in the said tax treaty. The taxpayer argued that on the basis Article 10 (10) of the South Africa – The Netherlands tax treaty read with Article 10 (6) of South Africa - Sweden tax treaty (as amended) and further read with South Africa tax treaty with Kuwait, the tax rate on dividend income should be nil. On other hand, the tax authorities contented that the Swedish MFN clause inserted through Protocol does not qualify as a new tax treaty as required under South Africa - Netherlands MFN clause because in certain cases exemption from tax withholding on dividend income was available under the existing tax treaty (i.e., before insertion of MFN clause through protocol). The tax authorities further argued that Article 10(10) of the South Africa - Netherlands tax treaty must be read as if it is restricted only to circumstances where preferential treatment is being afforded directly to another country in terms of subsequent agreements (i.e. future agreements) and not indirectly through the operation of a provision in an agreement that is dependent upon the existence of another prior existing treaty. [In favour of assessee] – [ABC Proprietary Limited [TS-862-FC-2019(SAFR)] – Date of Judgement : 12.06.2019 (Foreign Court South Africa)]

Grants MFN-clause benefit; No notification enforcing beneficial provisions of subsequent treaty necessary

Karnataka High Court sets-aside CIT's revisionary order under section  264 for Assessment years 2015-16 & 2016-17, rejects Revenue's stand that the beneficial FTS clause under the India-Finland treaty  (which was made effective from 01.04.2011) cannot be read into the former India-Netherlands DTAA by virtue of the Most Favoured Nation (MFN) clause; Holds that a separate notification by CBDT to enforce provision of the later treaty with Finland (i.e. another OECD country) into India-Netherlands treaty by virtue of MFN clause is not envisaged;  Assessee-company had filed revision petition under section 264 seeking MFN clause benefit under the protocol to India-Netherlands DTAA with respect to the payment of Fees for technical services ('FTS') to a Dutch party, however, the same was rejected by the Commissioner holding that no notification was issued by CBDT making beneficial provisions under India Finland treaty applicable to India - Netherlands treaty; High Court rules that the Protocol to the India- Netherlands DTAA itself provide for automatic application of subsequent Treaty, to the India-Netherlands Treaty in hand and therefore, no such separate Notification was envisaged to be issued for enforcing such subsequent Treaty with another OECD country, viz., Finland, to be made applicable to the facts of the present case.”; Follows Delhi High Court ruling in Sterial India case reversing the AAR ruling which was relied by Revenue, AAR had held that protocol, though an integral part of DTAA, cannot be treated as same as the DTAA provisions; However, as no detailed discussion on the factual aspects of the matter about the payment of FTS was made by CIT, High Court directs CIT to decide the revision petition filed by assessee under section 264 de novo. [In favour of assessee] – [Apollo Tyres Ltd. v. CIT(International Taxation) [TS-585-HC-2017(KAR)] – Date of Judgement : 28.11.2017 (Karn.)]

NOTE

Clause 12.4.2 of the Protocol to the India– Netherlands DTAA provides that any subsequent Treaty of India with another OECD country, if such subsequent Treaty provide for a more beneficial FTA/royalty Clause, then, by virtue of Clause-12.4.2 of the Protocol, such subsequent Treaty will automatically apply to the present India-Netherlands DTAA also. This is commonly referred to as ‘Most Favoured Nation or MFN’ clause.

ITAT invokes MFN clause to import make available clause from India-Portugese DTAA into the India-Sweden DTAA

Assessee was a tax resident of Sweden. During the year, the taxpayer received a management fee from its group companies for rendering commercial, management and marketing related support services. Assessee filed its return of income stating that such receipts were not taxable in India. The taxpayer claimed that fees for technical services (FTS) under Article 12 of the India-Sweden tax treaty read with the protocol thereto enabled the invocation of the MFN clause. With reference to the MFN clause, a restricted definition of FTS under the India-Portuguese tax treaty could be imported into the India-Sweden tax treaty. During the course of assessment, the dispute resolution panel (DRP) held that such receipts were taxable in India as FTS.

The Tribunal held that reference to the India Portugal tax treaty, which allowed a restricted definition of FTS, was valid in light of the MFN clause attached to the India-Sweden tax treaty. A protocol is an integral part of the tax treaty and has the same binding force.

Swedish company can claim Fee for Technical Services (FTS) received from its Indian subsidiaries as tax-exempt if ‘make available’ condition is not satisfied on the basis of Indo-Portugese DTAA even though Indo-Sweden DTAA makes no reference to 'make available' condition. In view of the Most Favoured Nation clause (MFN clause) in the protocol to the Indo-Sweden DTAA, a Swedish company can claim beneficial provisions for FTS contained in a later treaty such as Indo-Portugal treaty

While ruling the above, the Tribunal relied on the Delhi High Court ruling in the case of Maruti Udyog Ltd v. ADIT (2009) 34 SOT 480 (ITAT Delhi) and the Authority for Advance Ruling (AAR) ruling in the case of Poonawalla Aviation (P) Ltd., In re (2012) 343 ITR 202 : [TS-717-AAR-2011] (AAR-New Delhi) and held that the protocol appended to the tax treaties was an integral part of a tax treaty, and could be relied upon to understand the scope of taxation. [Sandvik AB v. Dy. DIT (2014) 52 taxmann.com 211 (ITAT Pune)]

India-France DTAA – Application of ‘Make Available’ concept by virtue of MFN Clause in Protocol to the Treaty

The assessee is a branch office of IATA, Canada. The said branch office is established with the permission of the Reserve Bank of India (RBI) for the purpose of undertaking certain commercial activities on no profit basis. In pursuance of an agreement entered into by IATA Canada through its administrative office in Switzerland, ADP-GSI, a French entity developed the system as per the specific need of the airlines and agents. The said system called BSP link, whereby the manual operations such as issue of debit notes/credit notes, issue of refund, billing statement, etc., relating to tickets are carried out electronically for agents as well as airlines who participate in the BSP Link. These BSP Link services were provided to the agents and airlines operating in India, for which invoices were initially raised by ADP-GSI on Switzerland office of IATA, Canada who in turn raised the invoices on IATA, India.

The payment against the said invoices thus was liable to be made by the assessee to Switzerland office of IATA, Canada. An application under Section 195(2) of the Act was filed by the assessee before the Assessing Officer seeking permission to remit the said amounts to Switzerland office of IATA, Canada without deduction of tax on the ground that the Switzerland office of IATA, Canada was not rendering any service to IATA, India and it was only collecting the funds from various IATA offices including IATA, India for making payments to ADP-GSI. The Assessing Officer held that, the actual beneficiaries of DSP Link services were airlines and agents in India. The payment for the said services was in the nature of FTS chargeable to tax in India at 10 per cent as provided in Article 13 of the India-France tax treaty. Accordingly, the Assessing Officer directed the assessee to deduct tax from the remittances made to Switzerland Office of IATA, Canada. The Commissioner of Income Tax (Appeals) [CIT(A)] held that the amount paid by the assessee to Switzerland office of IATA, Canada was not taxable in India as it was not in the nature of Fees for Included Services (FIS) under Article 12(4)(b) of India-USA tax treaty read with Article 13 of the India-France tax treaty and protocol thereto. Therefore, the assessee was not liable to deduct tax from the payment of the said amount. On Revenue’s Appeal, the Tribunal held that Payments for BSP link services are not ‘Fees for Technical Services’ under India-France tax treaty by virtue of MFN clause in Protocol to the Treaty. [In favour of the assessee] – [DDIT v. IATA BSP India (2014) 46 taxmann.com 150 (ITAT Mumbai)]

AAR allows interest income exemption to Swedish resident on loan guaranteed applying MFN clause, follows Poonawalla ruling

Interest income of Swedish resident on loan guaranteed by a specified Swedish authority covered under exemption provided in Article 11.3 of India-Sweden tax treaty in view of Most Favoured Nation (MFN) clause and Ireland treaty; Without MFN clause benefit, loans guaranteed by specified authorities not specifically covered in Article 11.3; AAR ruling in Poonawalla Aviation relied upon; No TDS on interest payment by Idea Cellular.

The applicant, Idea Cellular Ltd., an Indian Company entered into a contract with Ericsson India (P) Ltd and Ericsson AB for procuring cellular telecommunication equipment, software, service and documentation. To facilitate the financing for such procurement, the applicant availed of a loan facility from ABN Amro Bank NV Stockholm Branch and NORDEA Bank AB Sweden under a facility agreement. 

The Swedish Export Credits Guarantee Board (EKN) guaranteed the loan under the facility agreement. The guarantee was provided in respect of the actual amount drawn down by the applicant from time to time. In Dec 2010, the Royal Bank of Scotland NV, the successor of ABN Amro Bank and NORDEA transferred all their rights and obligations under the Loan Facility Agreement to AB SVENSK Export Kredit (SEK), a company incorporated in Sweden. SEK was a tax resident of Sweden. 

The applicant claimed that since the loan was guaranteed by EKN, the interest paid under the transaction was not liable to tax in India in view of Article 11.3 of the India – Sweden tax treaty. The applicant also claimed that guaranteeing a loan is the same as ‘extending or endorsing’ a loan. The Article 11.3 of India-Sweden tax treaty exempts interest from tax where it is derived and beneficially owned by, or derived in connection with a loan or credit extended or endorsed by specified authorities therein. 

The Authority for Advance ruling (AAR) while rejecting the applicant’s claim, observed that guaranteeing a loan was not the same as extending a loan or endorsing a loan. Thus, the benefit provided under Article 13.3 was not available to the applicant. However, AAR held that the interest would be exempt in the view of the Most Favoured Nations (MFN) clause in India-Sweden protocol. AAR accepted applicant’s alternate plea that in the view of the MFN clause and the India-Ireland Tax treaty, even a loan or credit guaranteed by EKN would come within the purview of the exemption contained in Clause 3 of Article 11 of the Convention. AAR observed, “...the payment of interest by the applicant to SEK through NORDEA Bank AB is not taxable in India under Article 11.3 of the India-Sweden Double Taxation Avoidance Convention in view of and only in view of the Most Favoured Nation Clause in the India-Sweden Protocol which has to be taken as part of the Convention.” 

As per the MFN clause, if India enters into a tax treaty with any other OECD country under which India limits taxation at source on interest, either in terms of rate or in terms of scope, then same rate or scope would be applicable to India-Sweden tax treaty. It was claimed that in view of provisions of Indian tax treaty with Ireland, interest on the loan guaranteed by EKN was not taxable in India. Article 11.3 of India-Ireland Tax Treaty provides that interest arising in a Contracting State shall be exempt from tax in that Contracting State provided it is derived and beneficially owned by, or derived in connection with a loan or credit extended, guaranteed or insured by specified authorities. AAR placed reliance on its earlier ruling Poonawalla Aviation (P) Ltd., In re (2012) 343 ITR 202 : [TS-717-AAR-2011] (AAR-New Delhi). Accordingly, in the absence of a Permanent Establishment in India, AAR held that there would be no obligation on part of the applicant to withhold taxes under Section 195 of the Income-tax Act, on the interest payable on the transaction. [In favour of assessee] – [Idea Cellular Ltd. [TS-120-AAR-2012] – Date of Judgement : 28.02.2012 (Authority for Advance Rulings, New Delhi)]