The Swiss Federal Department of Finance (FDF) has announced the suspension of Switzerland’s unilateral application of the Most Favored Nation (MFN) clause under the India-Switzerland Double Taxation Avoidance Agreement (DTAA) with effect from 1 January 2025. This decision follows the Indian Supreme Court’s ruling on 19 October 2023, which clarified that the MFN clause cannot be applied without formal notification under Indian tax law.
1. Background of the MFN Clause in India-Switzerland DTAA
Switzerland and India signed a DTAA on 2 November 1994, which was subsequently amended by protocols on 16 February 2000 and 30 August 2010. The 2010 protocol introduced the MFN clause, which stipulates that if India grants a lower withholding tax rate on dividends, interest, royalties, or technical service fees to any subsequent treaty partner that is a member of the Organisation for Economic Co-operation and Development (OECD), the same lower rate would apply to Switzerland retroactively from the date the new treaty comes into effect.
Based on this clause, Switzerland unilaterally applied a 5% residual tax rate on dividends (instead of 10%) starting 5 July 2018, following Lithuania’s accession to the OECD, and 28 April 2020, following Colombia’s accession.
2. Differing Interpretations by India and Switzerland
India and Switzerland have adopted different interpretations of the MFN clause:
a) Switzerland’s Interpretation: Switzerland applied the lower 5% dividend withholding tax retroactively from the date of Lithuania’s and Colombia’s OECD membership, assuming that the MFN clause was automatically applicable.
b) India’s Interpretation: India insisted that the lower tax rates under the treaties with Lithuania and Colombia could not be extended to Switzerland unless India issued an official notification under Section 90 of the Income Tax Act, 1961. Furthermore, India argued that the OECD membership status should be determined at the time of signing the treaty, not retrospectively upon a country’s later accession to the OECD.
3. Indian Supreme Court’s Ruling and Switzerland’s Response
On 19 October 2023, the Indian Supreme Court ruled against the retroactive application of the MFN clause in the case of Nestlé SA. The court determined that:
a) India must issue an official notification for the MFN clause to be invoked.
b) OECD membership must be assessed at the time of treaty signing, not after a country joins the OECD.
In response, the Swiss Federal Department of Finance issued a statement on 11 December 2024, confirming that Switzerland would cease applying the reduced 5% tax rate on dividends from 1 January 2025 and would revert to the original 10% tax rate as per the India-Switzerland DTAA.
4. Implications for Indian Businesses and Investors
Tax Years 2018-2024: Indian tax residents receiving dividends from Swiss entities remain eligible for the lower 5% tax rate.
From 1 January 2025: Swiss dividend payments to Indian tax residents will be subject to a 10% withholding tax, as per the original DTAA.
Despite media reports suggesting a suspension of the MFN clause itself, the clause remains part of the India-Switzerland DTAA. However, its application has been suspended
Businesses with Swiss investments should reassess their tax strategies in light of these developments and explore potential mitigation measures, such as foreign tax credits and restructuring options, to manage the impact of higher dividend withholding taxes.
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