In this article, Arpit Srivastava discusses the important clauses of DTAA.
Important Clauses of DTAA (Double Taxation Avoidance Agreement)
DTAA (Double Taxation avoidance agreement), as the name suggests is a treaty signed between two or more countries to avoid double taxation for the same income. DTAA is applicable to cases where a Taxpayer earns in one country whereas resides in another country. However, it is not always necessary to act as per DTAA, under section 90(2) of the Income Tax Act, 1961 states that where Central Government has entered into an agreement with any other country for the benefit of tax relief or avoidance of Double Taxation then the provisions of this Act shall be applicable to the extent they are more beneficial to the assessee. It means if a particular provision of Income Tax Act is more beneficial to the person than DTAA then it is up to the person to choose any of the two.
Important clauses of Double Taxation Avoidance Agreement
Every treaty is different and contains somewhat different provisions but herein some provisions of Indian treaty are discussed.
ARTICLE 1 Applicability
It talks about the applicability of this treaty to the person resident of either or both the contracting states. It is not applicable to the person who is non-resident of both the contracting countries. There is some ambiguity on the applicability of India-UK DTAA. In India partnerships are treated as taxable entity whereas as per the domestic law of UK partnership firms are not taxable unit. Thereby creating ambiguity and leading to uncertainty in the tax outcome. Calcutta High Court in the case of P&O Nedlloyd Ltd & Ors (W.P. no. 457 & 458 of 2005) held Indo-UK partnership firms are eligible for benefit under DTAA. The court was right in doing so as the impact of the said ambiguity is most of the firms seek for grossed-up reward or stay away, which ultimately raises cost for Indian entities.
ARTICLE 2 Taxes covered
Under this only Direct Taxes are covered i.e. taxes imposed on capital and income. As held in the case of Harshad Shantilal Mehta vs. Custodian (231 ITR 871 (SC)) tax does not include interest or penalty.
ARTICLE 3 General Definitions.
According to the definitions DTAA is applicable to only ‘persons’. Term ‘persons’ includes individual, an estate, a trust, a partnership, a company or other taxable entity. Now the complex issue in this regard can be with respect to joint ventures, partnership etc. certain countries treat partnerships as distinct transparent entity and levy taxes on the partners whereas in India partnerships are treated as taxable entity. It also covers general definitions like definition of fiscal year, enterprise of a contracting state, tax. Here tax means tax of either country. Indian tax would mean as defined under Income Tax Act, 1961.
ARTICLE 4 Residents.
Resident would mean any person who is liable to pay tax due to his domicile, place of management, place of residence or any other criteria. The person is liable for paying taxes under the laws of the contracting states. In case of Dual resident, tie-breaker rules shall apply. Under this rule the residence for the purpose of the treaty is being determined by his economic and personal ties like his permanent home, citizenship etc. While in case of others it is decided by POEM (Place of Effective Management). There can be many places for management but there is always one place for effective management. In the case of Joint director of income tax (international taxation) vs. cma cgm sa france (2009 27 SOT 367) the assessee was engaged in transportation by ships operated by other enterprises under the slot chartering arrangement. Mumbai ITAT held the income earned by assessee through these activities is taxable only in the state of Residence and therefore, such income will be exempted from income tax. There are many controversy surrounding residents of a contracting state like resident of UAE are not liable to pay tax under domestic law so whether they will be resident for claiming benefit under tax treaty? AAR in the case of MA Rafik (213 ITR 317) broadly construed the term ‘resident’ and observed ‘liable to pay’ cannot be equated with ‘actual payment of tax’ therefore the taxpayer will be eligible for benefits under the India-UAE treaty.
ARTICLE 6 Income from Immovable property.
Under this Article income from livestock, agriculture and forestry is included. In case of Immovable property the primary right is with the state where primary right is included.
ARTICLE 10 Dividend.
First right to tax dividend is with the country where recipient resides. However, dividend may also be taxed where the company paying the dividend resides as per the law of that country. Section 9(1)(iv) states the dividend paid by an Indian company to a nor-resident shall be deemed to accrue in India. Term ‘dividend’ would mean income from shares, jouissance share, jouissance right, founders shares, mining shares. Generally, dividends are received by a person out of the profit of the company which have already taxed, therefore if dividend is gain taxed then it will be double-taxation and that is the reason dividends are not taxed generally. Another question that may arise is whether tax-treaties will override the principles of Income tax Act? It is a well settled principle that tax-treaties will have overriding effect over Income Tax Act.
ARTICLE 11 Interest.
Interest is taxed where the recipient of the interest resides. However, the interest can be taxed by the contracting state where it arises as per the laws of that country. Term ‘interest’ would mean income from debt-claims, income from bonds or debentures, income from government securities. Penalty charges levied for late payment shall not be covered under the term ‘interest’.
ARTICLE 12 Royalty and fees for Technical Services.
Royalties and fees arising from technical services shall be taxed where the recipient of such royalties or fees resides. However, such Royalties and fees can be taxed by the country where it arises on the law of that state. If the recipient is the beneficial owner of the fees and royalties for technical services then the tax shall not exceed 10% of the gross amount of royalties and fees.
Term ‘royalties for technical services’ would include payment of any kind received in relation with use or right to use any copyright of literary, scientific or artistic work. It also includes cinematographic film or tapes. This definition does not include ‘other like right or property’. In one of the ruling of AAR i.e Airport Authority of India (A.A.R. No. 819 of 2009), it was held that income from royalties are taxable in India irrespective of the fact whether the non-resident has place of residence or business in India.
Term ‘Fees for technical services(FTS)’’ would include payment of any amount concerning services of technical, managerial or consultancy nature. It does not include payments for services mentioned in Article 15 of the agreement. DTAA provides for a case which states until and unless non-resident makes available the technical knowledge, skills, experience involved no question of FTS is involved. In the case of CIT and Another vs. De Beers India Minerals P. Ltd. (2012 346 ITR 467) it was held a foreign company from Netherland conducted a geographical survey and provided maps and data to the Indian company while the technical knowledge was not made available to the Indian company. The court held that photographs and maps cannot be considered technology made available and therefore it won’t be considered for Fees for technical services.
For the purpose of this Article royalties and fees shall be deemed to arise in the contracting state where the payer is resident of that country, state itself, a land, a local authority or a political sub-division.
DTAA differs from country to country. Some DTAA have articles dealing with FTS (e.g. Cyprus) some have phrases like managerial, technical and consultancy (e.g. Norway, Italy, Japan) while some DTAA do not have FTS article (e.g. Mauritius, UAE). In the case of National Organic Chemical Industries Ltd v. Dy.CIT [(2005) 96 TTJ 765 (Bom.)], it was held that even if FTS has accrued but not paid then no question of taxability will arise. The reason for the same is under article 12 of Indo-french DTAA both the conditions of accrual and payment are to be satisfied in order to tax FTS. The same is being stated in the case of CSC Technology Singapore Pte. Ltd. vs. ADIT (2012-LL-0217-40). FTS is taxable on the basis of payment and not on the basis of accrual. In simple terms the income accrued to a foreign company cannot be taxed in source country unless the amount is received by the foreign country.
Another controversy in this regard is how FTS should be taxed in the absence of specific article in Tax Treaty. Observation in this regard has been made by AAR in the case of In re: Lanka Hydraulic Institute Ltd [(2011) 337 ITR 47 (AAR)]. Here it was held that in the absence of specific article for taxation, the payment would taxable under article 22 i.e Other Income. It is true that Indo-Lanka treaty do not have specific article for fees for technical services and therefore provision of Article 22 will apply where it is clearly mentioned that if item of income of a resident is not expressly mentioned in any of the articles then he will be taxed only in that state where he is subjected to be taxed.
ARTICLE 13
Capital Gain with respect to immovable property will be taxed by the country of source i.e. where the property is situated. In case of movable property forming part of business property of a Permanent Establishment shall be taxed by the country of Permanent Establishment. In case of movable property excluding shares, tax shall be levied by the country of residence and in case of shares, tax shall be levied by the country where the situs of the company is located. Under India-Mauritius DTAA capital gains on sale of shares taxable only in Mauritius but no tax on capital gains in Mauritius as per their domestic law, so there is flip-flop treatment by government and no clarity yet on this regard. Vodafone International holdings vs. Union of India [(2012) 6 SCC 613] is a landmark case on capital gains where Supreme Court quashed the order of High Court demanding Rs 12,000 crore as capital gain tax. Court held that the revenue authorities cannot impose tax on an offshore transaction that took place between two non-residents companies but having controlling interests in an Indian resident company.
ARTICLE 14 Independent Personal Services
Income from professional services or any other activities of an independent personal shall be taxed by country of residence i.e where these services are performed by the independent personal.
Term ‘Professional Services’ would include independent literary, artistic, scientific, teaching or educational activities, independent activities of surgeons, physicians, engineers, lawyers, dentists, accountants etc.
ARTICLE 15 Dependent Personal Services
Such services shall be taxed by the contracting state where they were exercised.
ARTICLE 17 Artists and Sportsperson
Income derived by Artists or sportsperson shall be taxed by the country where they exercised such activities. Those activities might include working as an entertainer, working in theater, motion picture, television, radio, performing as musician etc.
ARTICLE 22 Other Income
It includes income which are not covered under other articles and such incomes shall be taxed by the country where it arises.
ARTICLE 23 Elimination of Double Taxation
One is Exception Method under which there is allocation of exclusive right to tax while other is Tax credit Method which includes provisions for giving credit to taxes paid in the originating state by the resident state.
ARTICLE 24 Non-Discrimination
Under this the nationals of the contracting state shall not be subjected to any taxation requirement in other contracting states which are more burdensome.
DTAA is intended to make this country an interesting destination for investors by providing relief on Dual taxation. For the people of this country to foster, economy must grow and with DTAA agreements with different countries significant betterment is done in this regard. Between year 2000 and 2015, Mauritius accounted for one-third of the total FDI flow in India i.e. $93.65 Billion. DTAA provide fundamental guidelines for cross-national flow of income and it is instrumental in lowering the administrative cost of taxation.
