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Government of one country enters into an agreement with the Government of another country or a specified territory for (i) Granting of relief in respect to double taxation (ii) Avoidance of double taxation (iii) Exchange of information (iv) Recovery of income tax.

Such agreement is called a Double Taxation Avoidance Agreement (DTAA). Often with the passage of time DTAAs is need to be amended which is done by signing a protocol by the two countries having DTAA. The purpose of protocols is to reduce non-taxation or reduced taxation through tax evasion.

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. 1st January 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.

Application of MFN Clause of Tax Treaty

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 MFN clause:-

1) 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.

2) 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.

3) 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.

To conclude 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.


The author is a practicing Chartered Accountant, Senior Partner in Kohli Chitkara & Co. LLP and can be contacted at Any comments or queries are welcome.

DISCLAIMER The information provided in this article is for general informational purposes only. All efforts have been made to provide accurate information in this document, however it should not be perceived as a professional or legal advice. Reader should consult a professional before making any decision based upon this document. Under no circumstance author or the publisher shall have any liability to you for any loss or damage of any kind incurred as a result of the use of this information.

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May 2024