In our recent publication^[1], we had deliberated upon the interpretation of Swiss Tax Authority^[2] on the Most Favoured Nation (‘MFN”’) clause and had indicated a potential disagreement thereto by the Indian Tax Authority. The Swiss Tax Authority, much like the Dutch Tax Authority^[3] and French Tax Authority^[4], had officially indicated their intentions of imposing a withholding rate of 5% (instead of the higher domestic tax rate) on dividends by invoking the MFN clause in their respective Tax Treaties with India, based on the beneficial rate prescribed under a treaty such as India – Slovenia Tax Treaty. However, the Indian Tax Authority i.e., the Central Board of Direct Taxes (‘CBDT’) has now issued an official Circular^[5] recording its disagreement with such a position^[6].

As per the CBDT, in order to invoke the MFN clause in a Tax Treaty, and thus import beneficial provision of another Tax Treaty, certain conditions must be fulfilled. One of the conditions is that the Tax Treaty, benefits from which are being sought to be applied, must have been entered into between India and another country, which is a member of the Organisation for Economic Co-operation and Development (‘OECD’) at the time of signing of the Treaty^[7]. Furthermore, there must be an official notification under Section 90(1) of the IT Act for such benefits to apply qua the Tax Treaty containing the MFN clause^[8]. Both these conditions are in direct contradiction with the decisions of the Delhi High Court.

It is a settled position of law that clarificatory circulars, such as the one in hand, are issued for the guidance of the officers and are, as such, binding on them. However, such circulars do not have any primacy over the decision of constitutional courts, such as the High Court itself^[9]. Therefore, there are significant chances that this Circular will be challenged by taxpayers if the Income Tax Officers wish to press this Circular in service, rather than following the judicial precedents on the interpretation of the MFN Clause.

Be that as it may, it is a matter of fact that the conditions highlighted above, have never been achieved. In fact, in our view, it is difficult to imagine if such conditions would ever be achieved and therefore, enforcing them would lead to rendering the MFN clause nugatory. Furthermore, there is no stipulation in any of the Indian Tax Treaties as well as the IT Act that permits the Indian Tax Authority to unilaterally read conditions into a Tax Treaty provision, especially when such an act may have the effect of rendering that very provision redundant^[10]. Even if one were to assume that such authority existed^[11], a Circular adverse to the interest of taxpayers could not have been issued^[12].

[1]  https://www.azbpartners.com/bank/mfn-clause-and-dividend-taxation-recent-trends.

[2]  Publication dated August 13, 2021 issued by the Federal Department of Finance, Swiss Confederation.

[3]  Decree No. IFZ 2012/ 54M dt. February 28, 2012.

[4]  French Bulletin of Public Finances – Taxes published by DGFIP on November 4, 2016.

[5]  Circular No. 3 of 2022, dated February 3, 2022.

[6]  This is despite the fact, in our view, that the operation of the MFN Clause in all these Tax Treaties is automatic and that there is no requirement for both parties to enter negotiations regarding its interpretation.

[7]  This contradicts Concentrix Services Netherlands B.V. vs. ITO, (2021) 434 ITR 516 (Delhi High Court). AZB had represented the Petitioner in this case.

[8]  This contradicts Steria (India) Ltd. vs. CIT, (2016) 386 ITR 390 (Delhi High Court).

[9]  Kuthannur Service Co-operative Bank Ltd. vs. ITO, (2020) SCC OnLine Ker 39 (Kerala High Court); Commissioner of Central Excise vs. Gurukripa Resins (P.) Ltd., (2011) 13 SCC 180 (Supreme Court).

[10]  The Supreme Court in UOI vs. Azadi Bachao Andolan, (2004) 10 SCC 1 (Supreme Court) observed that Tax Treaties are drafted by diplomats and not lawyers, and therefore, care must be taken to not render words contained therein redundant.

[11]  Section 119 of the IT Act.

[12]  UCO Bank vs. CIT, (1999) 237 ITR 889 (Supreme Court).