INTRODUCTION
In an era long before WhatsApp and other social media platforms took over communication, pigeons held a place of honor for the vital messages they carried. Let us rewind to the year 1789, when Benjamin Franklin penned to Jean-Baptiste Leroy (a famous scientist), famously stating:
“Our new Constitution is now established and has an appearance that promises permanency; but in this world, nothing can be said to be certain, except death and taxes.”[1]
That Franklin’s observation holds true today just as it did back then. But there is another noteworthy parallel between taxes and mortality that Franklin could have missed: like death, taxes are uncertain. No one ever really knows when, how, or where they will come. As in death, the time, manner, or place of which cannot be known.
The Base Erosion and Profit Shifting (BEPS) Project was created by the OECD in 2013 to close tax evasion loopholes by multinational firms, ensuring that they pay the appropriate amount of taxes at the appropriate time and location. This included treaty abuse, especially treaty shopping, through which entities were able to take advantage of unintended benefits from tax treaties. To counter the above, the Principal Purpose Test (PPT) was thereby introduced under Action 6 for the first time as a stalwart of the anti-abuse provisions under MLI, ushering uniformity across signatory nations. Herein lies an important question upon which its efficiency depends: could the PPT check treaty abuse without allowing unreasonable discretion to taxing authorities? If misapplied, it risks undermining legal certainty and taxation legality, potentially disrupting the balance established by the June 2017 executive victory and inviting legislative and judicial scrutiny.[2]
Recently, India’s Central Board of Direct Taxes (CBDT) has issued “Circular No. 01/2025”[3] that clarifies the application of PPT under India’s Double Taxation Avoidance Agreements (DTAAs). The MLI has been in force in India since October 1, 2019, and has modified several DTAAs, with the PPT being designed to deny treaty benefits where securing them was a principal purpose of a transaction. This clarity is much-needed, as it explicitly states that “grandfathering benefits” under the “Capital Gains Article” of India’s tax treaties with “Mauritius, Singapore, and Cyprus” will not fall within the PPT but will be covered by specific provisions of the treaties. While CBDT’s clarifications are very helpful in reducing uncertainty for foreign investors, the deeper legal issue is: Does the bare text of Article 7 raise any constitutional concerns? Scholars have long debated this from multiple legal perspectives, with no definitive resolution. Rather than attempting to settle the debate, this article redirects attention to the fundamental questions that demand further scrutiny. By analyzing the PPT within the framework of Action 6[4] and the MLI, it explores the legal intricacies of its adoption and application, particularly in light of India’s latest guidance, and offers well-reasoned solutions to emerging challenges.
CERTAINITY AND CONSTITUTIONAL BALANCE: RECENTLY INTRODUCED CBDT CIRCULAR
On 21 January 2025, the CBDT released a Circular that is cucial in the development of India’s international tax regime, bringing much-needed certainty on the operation of the Principal Purpose Test (PPT) under India’s tax treaties. The Circular, developed in response to continued uncertainty on treaty abuse provisions, sets out a future application of the PPT while balancing contemporary anti‑avoidance steps with traditional treaty obligations.[5] According to the Circular, the PPT is to be applied prospectively: for bilateral agreements, its provisions become applicable from the entry into force of those agreements; for treaties that are amended by an amending protocol, from the effective date of the protocol; and for treaties adopting the PPT by virtue of the Multilateral Instrument (MLI), from the entry‑into‑effect date of the MLI.[6] Such clear demarcation prevents taxpayers from being unfairly penalized retrospectively for past dealings and allows them to make future cross‑border interactions with certainty.
Of similar importance is the Circular’s handling of grandfathering clauses in India’s tax treaties with Mauritius, Cyprus, and Singapore. These agreements have been changed to provide the source state the authority to tax capital gains from shares acquired on or after April 1, 2017, while gains on shares bought before that date are “grandfathered,” with taxing rights restricted to the home state.[7] CBDT explains that such specific bilateral commitments fall beyond the PPT scope, and thus rights acquired under established conventions are maintained and the potential for ambiguity in treating historic transactions is evaded. In addition, the Circular makes it clear that even in situations where the PPT does not apply, other treaty-specific anti-abuse measures—like the Limitation of Benefits article in the India-Singapore tax treaty—remain in force, thereby providing a strong framework that prevents treaty abuse while also upholding earlier commitments.[8]
The CBDT guidance Is especially well-received by foreign investors and multinational companies, as it adds greater predictability to India’s tax environment. With the MLI now in force between most of India’s treaty partners, the PPT provisions have emerged as a key feature in a broad range of international tax treaties. This certainty is not only important for ensuring that anti‑abuse rules are properly applied but also for protecting investors from capricious interpretations of treaty terms.[9] The Circular reinforces the imperative of certainty in taxation, a precept deeply rooted in Indian law. The Supreme Court’s ruling in Vodafone International Holdings vs. Union of India[10]also particularly highlighted that a robust system of governance, based on unambiguous, stable tax legislation, is crucial to induce foreign direct investment and facilitate taxpayers in making rational economic decisions. As Justice Kapadia noted,
“Certainty and stability are the pillars of any successful fiscal system, being an essential component of the rule of law.”[11]
However, the inherent vagueness and breadth of Article 7 of the MLI continue to be a cause of concern. The Article provides that no benefit of a treaty shall be accorded if “it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes of any arrangement or transaction…” Such wording, though effective as a deterrent against abusive tax arrangements, gives rise to a number of urgent questions. Who, in fact, lays down what makes up “all relevant facts and circumstances” or prescribes the test of “reasonableness”? The lack of objective benchmarks leaves considerable latitude to tax officers, which could result in determinations that are subjective, perverse, or even arbitrary. Indian courts have persistently held that the exercise of the taxing power should be predicated on well-founded, objective principles. In “Chief Settlement Commissioner v Om Prakash (1968)[12]“ and “State of MP v B L Kaul (1999”)[13], courts emphasized that ruling on tax points must be calculable and based on settled jurisprudence principles so as to preserve the supremacy of the law of the land.
The Circular, In addition to giving welcome clarification as to the expected future application of the PPT and its interactions with grandfather provisions, also invites uncomfortable constitutional and procedural questions. Investors and policymakers are thus left to wonder whether the generic terms of Article 7 may, in operation, be constitutionally questionable—potentially being inconsistent with fundamental principles of legal certainty and equity underlying Indian Constitution.[14] In the end, the CBDT’s guidance seeks to navigate a sensitive balance: discouraging treaty abuse by means of strong anti‑avoidance rules, yet ensuring that such rules be implemented in a predictable and equitable manner.[15] By establishing clear dates of operation and protecting grandfathered obligations, the Circular aims to promote transparency in the global tax environment. Nevertheless, as scholars and practitioners continue to debate the extent and reach of the PPT, it is still essential that future interpretations and prospective legislative changes further develop these provisions to balance the imperatives of anti‑abuse enforcement with the guarantee of legal certainty in the constitution.
THE DUAL FACES OF EXPLOITATION: DECODING TREATY ABUSE
The “OECD” distinguished in its “Action 6 Final Report” and identified two distinct types of treaty abuse—those that constitute an improper use of tax treaties. These are categorized into the following:
1. Type 1 Abuse: Scenarios wherein one attempts to get around the “restrictions embodied in the very treaty” they are seeking benefit from.
2. Type 2 Abuse: Situations whereby one is able to get away with circumventing “domestic tax law”, based on provisions under the applicable treaty.[16]
Among these, “Type 2 abuse” is mainly exhibited as “treaty shopping”, which is regarded as the most common form of treaty abuse. The “OECD” generally defines “treaty shopping” as:
“A range of arrangements through which a person who is not a resident of a Contracting State seeks to access benefits granted by a tax treaty to residents of that State.”[17]
Notably, under “Action 6”, the “OECD” decided not to present a specific definition of abusive treaty shopping—a decision that has attracted considerable academic criticism. While that criticism is valid, one must acknowledge that the different interpretations given to Treaty Shopping occurs in several nations and jurisdictions render the job of designing an all-inclusive, universal definition tough.[18] In this regard, this is particularly important since such a definition would have to act as a benchmark against the potential solutions to be applied worldwide through instruments like the “Multilateral Instrument (MLI)”.[19]
It can be seen that the “OECD” seemed to deliberately settle for a broad and elastic form, and there was more “discretion in crafting anti-treaty shopping measures” under “Action 6”, particularly in the creation of the “Principal Purpose Test (PPT)”. This interpretation gets an assurance in the “Action 6 Final Report”, which, by clarifying that the “PPT” is intended to address “all forms of treaty shopping”, by maintaining a general definition, allows the “OECD” to facilitate the establishment of a correspondingly broad legal mechanism to address treaty shopping in all its aspects.
Beyond “treaty shopping, Type 1 treaty abuse” includes cases in which a “resident of a contracting state” arranges his or her transactions for the purpose of meeting the conditions to obtain “tax treaty benefits”. Some practitioners call this practice “rule shopping”, essentially describing it as the tactical utilization of tax treaties for obtaining higher tax benefits by any person or business entity who is already entitled to them.[20] This often means choosing “distributive rules” or particular treaty provisions that result in the most advantageous tax results and deliberately avoiding others.
In cases of “rule shopping”, the “OECD” typically assumes that the “main-or only-reason” for designing these types of arrangements is to achieve treaty benefits that would otherwise be “not available” if the transaction were carried out in its normal, commercially conventional form. Awarding treaty benefits in these situations is “not appropriate”, and it constitutes “treaty abuse”.[21] To deal with and reduce this type of abuse under the “minimum standard”, the “OECD” has suggested in its guidelines the inclusion of the “Principal Purpose Test (PPT)” in tax treaties. This basic anti-abuse criterion was created to “prevent the non-granting of treaty benefits” because obtaining them was one of the main goals of the agreement or transaction.[22]
The primary goal of the Action 6 Final Report on type 2 treaty misuse is to make sure that tax treaties do not preclude the implementation of specific domestic legal measures meant to thwart the underlying agreements or transactions. While the ideal answer would be to include a saving clause in tax treaties—as for in “article 11 of the MLI (2017)”—the report also sees a role for the PPT.[23] In situations where domestic anti‑tax avoidance measures are activated under the same circumstances that would otherwise result in the denial of treaty benefits under the PPT, these measures are assumed to be treaty-compatible by nature. In doing so, the PPT arguably serves to establish the treaty-compatible limits for the imposition of domestic anti‑tax avoidance measures.
This interpretation, however, is controversial.[24] The Action 6 Final Report does not offer a legal explanation confirming the consistency of these domestic actions with the current tax treaties. The omissions or opt‑outs from the saving clause—defined in “article 11(3)(a) of the MLI (2017)” by signing states—have to be legally defined. Imposing taxation on a state’s own citizens under home country anti-tax evasion provisions (e.g., CFC rules or statutory/case law-based GAARs) cannot be assumed automatically consistent with the treaties.[25] Instead, in the situation where treaty benefits would be withheld under the PPT, the PPT must prevail—making the domestic measures superfluous—or, if the domestic rules are applied initially, their treaty consistency needs to be examined in the process of treaty interpretation.
BLUEPRINT OF TREATY INTEGRITY: IN DEPTH ANALYSIS OF WORDING, ARCHITECTURE, AND OPERATIONAL DYNAMICS OF ARTICLE 7(1) OF THE MLI’S PPT
- Relations to Other Tax Treaty Provisions
The Principal Purpose Test (PPT) in Article 7(1) of the MLI (2017) is specifically intended to serve as a catch-all anti-abuse measure within the framework of international tax treaties. In opening with the words “Notwithstanding any provisions…” all other treaty provisions, including particular anti-avoidance measures and specialised anti-abuse regulations like the Limitation on Benefits (LOB) clause, are subordinated to the PPT’s rule of priority.[26] This opening sentence is a conscious decision by the drafters that regardless of how a tax treaty may otherwise be interpreted,[27] the purpose of the PPT is to stop treaty advantages from being granted where tax avoidance is the primary goal.
Established principles of treaty interpretation, particularly the Vienna Convention on the Law of Treaties (VCLT), support this precedence norm. According to the VCLT’s Articles 31 and 32, treaties must be construed honestly and in the context of their goals.[28] For the purposes of BEPS Action 6 and the MLI, this implies that the PPT is to be read as a provision that not only prevails over contrary provisions but also brings into harmony the overall anti-abuse regime such that the purpose of preventing treaty-induced tax avoidance takes precedence.[29] Its backup role is no less important. When a tax treaty has both a specific anti-abuse rule (like an elaborate LOB article) and the general PPT, the PPT is not made superfluous. Instead, it acts as a general safe-guard. Where a taxpayer may pass the narrow tests of individual clause but the overall scheme is designed primarily to obtain a tax advantage, the PPT will allow authorities to disallow the benefit on a wider basis. In this two‑tiered framework, even when the particular condition is satisfied, the application of the PPT guarantees that the taxpayer’s real, dominant intention is examined, thus upholding the treaty’s essential object and purpose.[30]
Additionally, the PPT’s interconnection with other treaty rules is essential in preventing a “loophole” situation. Taxpayers would otherwise resort to treaty shopping or “rule shopping” by taking advantage of ambiguities or by choosing the more beneficial specific rule.[31] The explicit textual mandate under Article 7(1) that the PPT “notwithstanding any provisions” shall apply assures that the wide anti‑abuse objective will take the day. Such a methodology, supported by the legal principle that a written, express provision (in this case, the PPT) has precedence over unwritten or ancillary rules, assures consistency in the over 2,000 treaties to which the MLI will ultimately extend.[32]
In addition, the linkage of the PPT to other anti-abuse provisions is a manifestation of the BEPS agenda. The OECD’s Action 6 Final Report itself conceived that, by integrating the PPT into the network of treaties, states may make sure that benefits provided in tax treaties should not be utilized as a weapon for aggressive tax planning.[33] Thus, by outlining an explicit hierarchy and an ancillary function, the PPT both underscores current treaty protections and completes gaps that might be created by more narrowly focused measures. The PPT is essentially an important support column in the new anti‑abuse framework that aims to provide certainty of treatment while discouraging distasteful tax avoidance behaviour by synchronizing domestic and international legal frameworks.
- Interrelations Between the Two Parts of the PPT: Burden of Proof and the Guiding Principle
The PPT takes the shape of a two-pronged test designed to address both the subjective intention of the taxpayer and the objective conformance with the treaty’s overall purpose, which are the two parts of treaty abuse.[34] In Article 7(1) of the MLI, a benefit under a treaty has to be refused if “it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes” of the transaction. This initial question is fact‑based per se and, by nature, has a low threshold.[35] It makes it possible for tax administrations to conclude that in the event of even a single one of the main reasons why an arrangement was entered into is to gain a tax benefit, then the arrangement comes under treaty abuse.
Despite this, however, the test does not by default lead to the refusal to grant benefits. Rather, it is supplemented by a second test: even if tax avoidance is held to be a primary motive, the benefit can be denied only if its grant would be “in accordance with the object and purpose of the relevant provisions” of the treaty.[36] This is a balancing act. While the first part authorises tax administrations to object to transactions that are prima facie motivated by tax avoidance, the second part allocates part of the burden to the taxpayer. The taxpayer would then have to prove that the benefit’s application, despite the avoidance motive, is not contrary to the treaty’s basic goals—primarily, the avoidance of double taxation and the encouragement of fair international taxation. This two-part structure reflects what the OECD identifies as a “guiding principle.” It rests on the belief that tax treaties must not be employed to evade domestic anti‑avoidance or to design double non‑taxation.[37] In practice, the first leg permits a rather broad analysis of intent, but the second limb necessitates a rigorous demonstration that the benefit aligns with the treaty’s objectives. This has been accused of favouring the tax authorities, who may find it simpler to prove that a tax advantage was obtained with malicious intent.[38] Having passed the initial test, the taxpayer must then provide satisfactory proof that the benefit should still be granted because the benefit is in accordance with underlying intention of the treaty.
In most ways, this structure transposes the burden of proof on a subtle level. The first inference that the tax benefit was a main intention can be confirmed on a “reasonable” ground without requiring clear evidence. By contrast, this inference has to be overcome through a careful, fact‑dependent analysis that grapples both with the outward and inner requisites of the transaction. That balance is delicate.[39] It should make sure that, while abusive arrangements are properly stifled, legitimate commercial transactions are not inadvertently discouraged. The task is to ensure that the subjective factor—in other words, the intent of the taxpayer—does not become too determinative[40], yet without sacrificing the objective protection inherent in the treaty’s object and purpose.
Therefore, the interrelationship between the two halves of the PPT highlights a inherent conflict in international tax law: balancing flexibility to combat abusive behavior with the imperative of legal certainty and predictability. The OECD guidance and its Commentaries attempt to find this balance, but the operational implementation still presents real challenges for both tax administrations and courts in multiple jurisdictions.
- One of the Principal Purposes of Any Arrangement or Transaction
The sentence “one of the principal purposes of any arrangement or transaction,” which is the threshold for rejecting treaty benefits on the grounds of misuse, lies at the centre of the PPT. This language is essential because it directs the investigation away from the transaction’s structure and towards the core of the taxpayer’s goal.[41] In practice, the test obliges tax administrations to consider the substantive purpose of an arrangement to decide whether obtaining a treaty benefit was one of its primary purposes. This emphasis on purpose is necessary in the fight against treaty shopping and other tax-driven arrangements. Definitional issues arise at once.[42] Phrases like “treaty benefit,” “arrangement or transaction,” and “all relevant facts and circumstances” are not fully defined in the MLI or supporting OECD materials. This built-in vagueness requires an interpretative strategy which relies on the principles established under the Vienna Convention on the Law of Treaties (VCLT), and specifically Articles 31 and 32.[43] These articles mandate that provisions of treaties be interpreted with reference to their context, object, and purpose, as well as the overall object of the treaty. Therefore, to decide if gaining a benefit was a main object requires a factual investigation as well as a purposive interpretation of the treaty regime.
The “reasonableness” standard lies at the heart of this investigation. The words “it is reasonable to conclude” suggest that tax administrations need not prove beyond all possible doubt that the main objective was tax evasion. Instead, a lower threshold is sufficient—if the totality of the facts indicates that a tax advantage was a substantial or overriding reason, then the presumption of treaty abuse can be activated.[44] Although this low threshold is intended to cover a wide range of abusive schemes, it also creates risks of over‑inclusiveness. Legitimate commercial transactions could fall within its scope by chance if a tax advantage, albeit secondary, exists.[45] Critics suggest that so low a threshold may discourage economically viable transactions, as taxpayers may worry that any tax advantage—no matter how incidental to a bona fide business purpose—may be interpreted as indicative of abuse.[46] Furthermore, the consequences of this low threshold carry over into the very fabric of international tax policy. By reducing the threshold for finding abuse of a treaty, the PPT serves as an effective weapon against artificial plans that are drafted mainly to make use of treaty benefits. At the same time, this generous interpretation needs to be judiciously weighed against the freedom of contract principle.[47] Taxpayers must not be penalized because they organize a transaction in a way that is economically efficient as well as commercially rational. The conflict between preventing abusive methods and maintaining true business intentions underlies the question of the breadth of the PPT.
As such, the term “one of the principal purposes” strives to identify the economic reality at play in the transaction. It is a best attempt to view behind the veneer and analyse the real driver of the taxpayer. In doing so, the PPT aims to bring the granting of tax treaty benefits into line with international tax treaties’ general object and purpose, namely to avoid double taxation without creating opportunities for avoidance.[48] Thus, the PPT is a key but contentious tool in contemporary international tax law.
- Accordance with structure of the relevant Treaty Provisions.
According to the PPT’s second fundamental tenet, a benefit may only be refused if doing so would be “in accordance with the object and purpose of the relevant [treaty] provisions,” even in cases where it is logically assumed that obtaining the advantage was a primary goal of the arrangement.”[49] As a check to avoid the denial of benefits from being in opposition to the general goals of the treaty regime, this clause adds an objective component to what would otherwise be a primarily subjective investigation.
Interpretation of this provision necessitates a twofold examination. First, tax administrations and courts need to identify the aim and objective of the treaty provisions in question. According to the Vienna Convention on the Law of Treaties (Articles 31 and 32), this identification involves consideration of the text of the treaty, preamble, and the more general policy context within which the treaty was negotiated. For example, whereas the underlying purpose of a majority of tax treaties is to prevent double taxation and spur cross-border economic activity, the BEPS Action 6 blueprint further seeks to deter treaty-induced tax avoidance.[50] Hence, in implementing this branch of the PPT, the question must steer between these two goals.
One serious challenge herein is the danger of the purpose and the means or effect getting entangled. That is, though the object of a treaty could be to provide economic cooperation and prevent double taxation, the mechanisms used by the parties—be they particular anti‑avoidance rules—must not themselves be seen as being the only definers of the object of the treaty.[51] Rather, the consideration must be had as to whether the provision of a specific benefit would undermine the overall purpose of the treaty. In practice, this involves assessing whether the outcome of the transaction is consistent with the economic substance and policy intent of the treaty. The economic substance and true business purpose play a significant role here.[52] The OECD’s Commentary to the BEPS Action 6 Final Report stresses that the test should not catch arrangements with legitimate commercial purpose. Instead, only those arrangements that essentially destroy the object of the treaty—by enabling double non‑taxation or otherwise diminishing the tax base—ought to be sanctioned.[53] The difficulty is in drawing a clear line between legitimate tax planning and abusive behaviour. It is feared that, in the absence of clear criteria, tax authorities will use their discretion in ways that lead to uncertainty and lack of consistency, and thereby trespass on the rule of legal certainty.
Additionally, this aspect of the PPT supports the imperative of an integrated interpretative methodology. Instead of using a mechanical test, officials need to use a contextual and purposive reading of the treaty provisions. This entails not just examining the wording of the treaty itself but also taking into account supplementary materials like the preamble, explanatory statements, and the wider BEPS context.[54] Such an integrated perspective guarantees that the enforcement of the PPT is not an empty ritual but a meaningful check against abusive behaviour. In total, the provision “in accordance with the object and purpose of the pertinent provisions” serves as a vital counterweight to the more subjective question of a taxpayer’s motives. It reminds us that the true end of tax treaties is to induce actual economic activity and avoid being vehicles for avoidance.[55] By insisting on consistency with the underlying object of the treaty when denying benefits, this facet of the PPT aims to protect both international tax system integrity and the requirement of legal certainty.
- Operation of PPT
The PPT’s operational usage affects tax administrations and taxpayers in significant ways. On the one hand, the test grants tax authorities extensive discretionary authority to review transactions. The requirement that the authorities take “all relevant facts and circumstances” into account enables them to make a full assessment of a taxpayer’s arrangement, encompassing considerations like the economic substance of the transaction, its commercial logic, and its overall effect on the tax base.[56] The wide mandate is intended to be an effective deterrent against treaty abuse. In making it possible for authorities to refuse treaty benefits even where individual anti‑abuse provisions may not be activated, the PPT operates as a useful backstop ensuring the overall integrity of tax treaties.
But this blanket discretion is a double‑edged sword. While it enables tax authorities to fight abusive arrangements, it also introduces some uncertainty into the global tax environment.[57] Taxpayers can struggle to anticipate whether their transactions will qualify as abusive under the PPT, especially in light of the test’s built-in reliance on a “reasonableness” standard subject to interpretation. This uncertainty has a chilling effect on legitimate cross-border business operations since companies may become excessively risk-averse in designing transactions lest a beneficial tax stance be withdrawn later by an authority’s exercise of discretion.[58]
In addition, the PPT’s effect is on the balance of power between taxpayers and tax administrations. The argument has been that the first assumption that achieving a treaty benefit is main purpose of arrangement is fairly easy to make—entailing merely a reasonable inference on the basis of facts. As soon as this inference is drawn, however, the onus then falls on the taxpayer to show that conferral of the benefit would not violate the object and purpose of the treaty.[59] Effectively, whereas tax administrations are able to rely on a low threshold to open an investigation under the PPT, taxpayers have to overcome a higher standard of evidence to disprove that assumption. This asymmetry is problematic in terms of the proportionality and fairness of the application of the PPT, particularly in jurisdictions where the principle of “no taxation without representation” and the separation of powers are constitutionally entrenched.[60]
Aside from these issues, the wide discretionary ambit inherent in the PPT provokes discussion of possible “de lege ferenda” reforms. Many scholars have argued that the test’s current form—while effective in theory—may require refinement to incorporate more objective criteria. For example, establishing clearer guidelines on what constitutes “all relevant facts and circumstances” or adopting quantifiable benchmarks for economic substance could help reduce the uncertainty that currently plagues the PPT’s application.[61] Such reforms would seek to do more than just increase legal certainty, but also to ensure that the fine line is maintained between preventing abuse and permitting valid tax planning. In general, the implications of the application of the PPT are wide-ranging. They affect the interpretation and application of tax treaties, steer the conduct of multinational companies, and ultimately the wider goals of international tax policy. Through denial of treaty benefits in abuse cases, the PPT aims to ensure that tax treaties are utilized in a manner that is aligned with their intrinsic purpose—i.e., encouraging equitable taxation and avoiding the loss of the tax base through abusive tax planning.[62] However, the inherent uncertainty and broad‑ranging discretion that are inherent in its application remain contentious, highlighting the necessity for continued discussion and possible reform in this important field of international tax law.
SYNTHESIS OF THE PPT
- Lack of a Balanced Approach
The Principal Purpose Test (PPT), embodied in Article 7(1) of the MLI (2017), was constructed as a general anti-abuse rule to fight against treaty shopping and other tax‑driven schemes. However, its very structure demonstrates a crucial imbalance between the extensive latitude reserved for tax administrations and the guarantees for taxpayers. On the one side, the PPT clearly states that no treaty advantage shall be accorded if “it is reasonable to conclude, having regard to all relevant facts and circumstances, that obtaining that benefit was one of the principal purposes” of the scheme.[63] The opening statement “Notwithstanding any provisions…” firmly places the PPT above other treaty provision—be that any particular anti‑abuse rule like the Limitation on Benefits (LOB) article. This means, even if the taxpayer passes wider statutory tests, the more overarching evaluation under the PPT takes precedence over that determination if tax avoidance is really the dominant objective.[64]
The Vienna Convention on the Law of Treaties (VCLT) and other fundamental principles of treaty interpretation provide the method’s jurisprudential foundation. According to the VCLT’s Articles 31 and 32, treaties must be construed honestly and in the context of their goals. In this sense, the PPT is intended to prevent the misuse of international tax agreements for tax evasion, hence upholding their overall anti-abuse intent.[65] Nevertheless, the built-in vagueness in terms like “reasonable to conclude” and “one of the principal purposes” leaves a broad margin of interpretation. This imprecision not only gives tax authorities significant discretion to decide what is abusive but also puts taxpayers in a defensive position where they have to offset any presumption of intent to act fraudulently with proof that the transaction is in line with the object and purpose of the treaty.[66]
The distribution of the burden of evidence exacerbates the disparity even further. With a comparatively light burden, tax officials can establish a prima facie case of misuse. Following that first conclusion, the taxpayer has the responsibility to demonstrate that the benefit’s provision would actually be in line with the broad goals of the treaty. In practice, this two‑step process can lead to situations where even commercially sound transactions—those with genuine economic substance—are scrutinized and potentially denied treaty benefits based solely on the inference that a tax advantage was among the driving motives.[67] Critics argue that this imbalance effectively tips the scale in favor of the state, thereby undermining principles of fairness and legal certainty. This imbalance has practical implications beyond academic debate. In a setting in which tax authorities have broad discretion, the threat of inconsistent application between jurisdictions is exponentially greater.[68] Even if two taxpayers are making identical cross-border transactions, they could face vastly different results under the PPT depending on whether one tax authority applies a more aggressive interpretation of “all relevant facts and circumstances” than another. Such inconsistencies not only undermine trust in the global tax regime but also jeopardize the consistency that tax treaties are designed to establish among signatories. The OECD’s BEPS Action 6 Final Report and supporting Commentaries emphasize the value of consistency; yet, the wide-ranging scope of the PPT provides much scope for disparate judicial and administrative approaches.[69]
Additionally, the present design of the PPT jeopardizes the principle of freedom of contract. Taxpayers structure their transactions according to foreseeable rules, and uncertainty as to the application of the PPT may discourage genuine business arrangements. The risk that a transaction, having met all other anti‑abuse conditions, might subsequently be recharacterized as abusive on a subjective determination of intent has a chilling effect on cross-border commerce.[70] Not only does it affect multinational enterprise, but wider‑ranging economic impacts will arise through its deterrence of economically optimal dealings, triggering the curbing of cross‑border investment and innovative activities. To sum, though it’s indisputable that PPT is a weapon that must discourage treaty misuse, the fact that it’s free of any kind of equilibrium proves to pose remarkable difficulties. The alignment of unclear, low-threshold conditions with an asymmetrical proof burden is unfavourable to taxpayers and injects tremendous uncertainty into the implementation of cross-border tax agreements.[71] To reach the fine balance in the imagination of the MLI drafters, there is an urgent need for more objective guidelines and less subjective benchmarks that can balance the competing demands of effective anti‑abuse measures and the maintenance of legal certainty and fairness. Such reform would not only enhance the integrity of the international tax framework but also promote a more stable and equitable setting for cross‑border economic activity.
- Legislative Concerns in Light of Potential Legal and Economic Turbulences
There are a number of legislative issues with the Principal Purpose Test (PPT), which was developed in Article 7(1) of the MLI (2017) and interpreted in accordance with the Vienna Convention on the Law of Treaties (VCLT, specifically Articles 31 and 32). These issues are relevant to both the legal and economic domains. By refusing benefits where it is “reasonable to conclude” that receiving the advantage was one of the primary goals of a transaction, the PPT essentially aims to avoid treaty abuse.[72] However, its wording—such as “reasonable to conclude” and “one of the principal purposes”—is ambiguous and has limitations in terms of proportionality, legal clarity, and the equitable allocation of power between taxpayers and tax authorities. One of the primary legislative issues is the inherent subjectivity of the PPT’s specifications.[73] The expressions “it is reasonable to conclude” and “one of the principal purposes” are not defined with specificity, which leaves tax administrations a great deal of room for manoeuvre when assessing the “relevant facts and circumstances.” This vagueness not only creates inconsistency in administrative interpretation but also threatens to undermine the principle of legal certainty. In constitutional democracies, taxpayers need to be able to foresee the tax implications of their conduct with a reasonable degree of certainty.[74] This ambiguity can cause arbitrary and discriminatory results in such cases. In fact, domestic case law in some jurisdictions has been concerned that broad discretion in administration could violate the notion of “no taxation without representation,” giving taxpayers no comfort that their transactions will be treated the same.
Further, the rule of proportionality, which demands that any measure limiting treaty benefits must be commensurate with its objective, introduces additional complexity. Within the context of the PPT, there exists a real risk that tax administrations could exercise their discretion excessively. Even where a tax benefit is merely a marginal consideration in a complex transaction, the PPT’s low level may lead to a denial of benefits, thus causing disproportionate consequences to the true economic effect.[75] As stated in rulings like the SIAT case, such a result not only contradicts the fundamental goals of tax treaties, which are to prevent double taxation and to facilitate lawful cross-border trade, but it also goes against the fairness principles embodied in both domestic constitutional law and EU legal tradition.[76] These issues are also exacerbated at the legislative level by the reversal of the burden of evidence. After tax authorities have concluded, on a “reasonable” basis, that receiving a benefit was one of the primary goals, the taxpayer is responsible for proving that providing the benefit would still be consistent with the intent and goals of the applicable treaty provisions. This engenders a procedural imbalance: although the threshold for opening an investigation into possible abuse is fairly low, the onus on taxpayers to rebut this presumption is considerably greater.[77] This kind of asymmetry can deter genuine tax planning and even discourage cross-border investment, since multinational groups may worry that even carefully designed, commercially reasonable arrangements might subsequently be rewritten as abusive.
Legalistically, these uncertainties have given rise to demands for reform. Several scholars, experts, and policymakers believe that there are more objective and clearer criteria required in the PPT. Some suggestions include making more precise the language to ensure quantitative parameters for what is an “all relevant facts and circumstances” or fashioning a more equitable division of the burden of proof between taxpayers and tax authorities.[78] These reforms would seek to balance the necessity of having strong anti‑abuse rules with the requirement of safeguarding taxpayers’ rights and providing foreseeable, consistent application across jurisdictions.
Secondly, the possible economic consequences of the PPT’s present wording are important. Uncertainty and perceptions of arbitrariness in application of the PPT can give rise to a chilling effect on foreign investment. Companies depend upon stable, predictable tax regimes in order to conduct their transactions cost-effectively.[79] If tax authorities are seen to have too much latitude to reinterpret the economic substance of a transaction, investors will be discouraged from undertaking cross‑border activity, and ultimately the competitive benefits that tax treaties are designed to achieve will be undermined. This not only impacts individual enterprises but could also lead to wider revenue losses for states and a decline in international economic activity as a whole.[80] Finally, while the PPT is an essential tool in fighting treaty abuse, its present form gives rise to serious legislative issues. The subjective phrasing and sweeping discretionary authority that are built into its design are at odds with the concepts of legal certainty and proportionality, and they upset the state and taxpayer protection equilibrium. Overcoming these challenges via focused legislative overhauls, including clarifying vague language and rebalancing the burden of proof, is necessary to safeguard that the PPT achieves its desired effect while not undermining the fundamental principles of fairness and foreseeability in cross-border taxation law. Balancing these conflicting goals is vital for preserving a level, effective, and stable system of international taxation in an economically more integrated global economy.[81]
CONCLUSION AND SUGGESTIONS
- Implementing a Tax Treaty GAAR as an Alternative to the PPT: Limitations Under the MLI Framework
The Principal Purpose Test (PPT) has now established itself as a basis for addressing treaty abuse with a broad, comprehensive approach, as demonstrated by the analysis of the PPT in BEPS Action 6 and its incorporation into the MLI. By stating that benefits will not be awarded if it is “reasonable to conclude” that obtaining them was one of the primary goals of an arrangement, Article 7(1) of the MLI establishes a strong rule of precedence over other treaty provisions, such as the Limitation on Benefits (LOB) clause.[82] Yet, although this wide scope ensures abusive transactions are caught, it also poses great challenges. The inherent imprecision of essential words—”reasonable to conclude” and “one of the principal purposes”—accords undue discretion to tax authorities, which may contribute towards arbitrariness and differential application across jurisdictions. Given the context of the MLI, where signatories have at the global level agreed to adopt the PPT as the floor standard, the prospect of applying an alternative tax treaty GAAR in place of the PPT becomes shrinking.[83] The MLI reservation mechanism allows for only a limited departure from this norm. The PPT’s global application to over 2,000 treaties is a reflection of policymakers’ dedication to a single anti‑abuse regime. A GAAR that deviates considerably from the PPT in this context threatens to cause inconsistencies between national anti‑avoidance provisions and treaty obligations, and hence, compromise the uniformity of the international tax environment. Furthermore, the expansive scope of the PPT could accidentally ensnare true commercial transactions by being too preoccupied with the presence of a tax benefit, irrespective of economic substance.[84] This over-breadth not only interferes with legal certainty but also endangers the cornerstone constitutional principle of “no taxation without representation,” as emphasized by Indian case law in cases such as Vodafone International Holdings vs. Union of India and Chief Settlement Commissioner vs. Om Prakash[85]. Effectively, although the alternative GAAR might be conceptually attractive, legislative and diplomatic realities within the MLI system make its full replacement of the PPT theoretically impossible without creating a fragmentation in the anti-abuse architecture and compromising treaty uniformity.
- Exploring an Alternative GAAR Framework Beyond the MLI: Opportunities for Enhanced Legal Certainty
Beyond the binding structure of the MLI, the potential to apply a tax treaty GAAR as a substitute for the PPT offers an exciting path toward greater clarity and equity in international tax law. In those jurisdictions that have domestic legal philosophies or policy decisions that permit greater sophistication, a substitute GAAR could include specific, objective standards that reduce the use of subjective determinations. This alternative framework may, for example, determine “relevant facts and circumstances” by quantifiable standards like the length of an arrangement, the magnitude of economic substance, and the consistency with established business practices.[86] In this way, the alternative GAAR would not only limit the uncontrolled exercise of discretion but also give taxpayers definite guidelines, thus increasing legal certainty. Such a framework would reduce the risk of over‑capture in the PPT, where even transactions with a legitimate commercial reason could be excluded from treaty benefits purely on the grounds that a tax benefit looks like one of multiple reasons. Learning from domestic case law and international best practice, a new GAAR could be constructed to guarantee that anti‑avoidance rules are proportionate and predictable, and therefore promote cross‑border investment and trade. In India, where constitutional requirements underscore that tax legislation should be clear, certain, and based on legislative mandate, a different GAAR that is shaped by these requirements would be especially praiseworthy. By falling in line with principles enshrined in the Vienna Convention on the Law of Treaties (Articles 31 and 32) and by taking into account the guidance of settled judicial rulings, e.g., Vodafone and Om Prakash, this option could balance the twin aims of preventing abusive tax avoidance and protecting taxpayer rights. In reality, a well-balanced GAAR would provide a balanced response by assuring an even allocation of the burden of proof between tax administrations and taxpayers to limit the potential for capricious rejection and ensure an internationally stable, foreseeable regime.
[1] Ashish Goel, ‘Does the Principal Purpose Test (PPT) Throw Tax Certainty to the Winds?’ (Kluwer International Tax Blog, 2 May 2019) http://kluwertaxblog.com.
[2] Ernst & Young Global Tax News, ‘India Tax Administration Issues Guidance on Application of Principal Purpose Test’ (24 January 2025) https://globaltaxnews.ey.com/news/2025-0315-india-tax-administration-issues-guidance-on-application-of-principal-purpose-test.
[3] Central Board of Direct Taxes, ‘Circular No. 01/2025’ (21 January 2025).
[4] OECD, ‘Preventing the Granting of Treaty Benefits in Inappropriate Circumstance – Action 6: Final Report’ (OECD, 2015) http://www.oecd.org/tax/treaties/Action6FinalReport.htm.
[5] Taxmann, ‘Principal Purpose Test (PPT) under DTAA to be Applied Prospectively: CBDT’ (Taxmann Blog) https://www.taxmann.com/post/blog/principal-purpose-test-ppt-under-dtaa-to-be-applied-prospectively-cbdt.
[6] Deloitte, ‘CBDT Issues Guidelines for Application of Principal Purpose Test’ (Deloitte India Tax Alert, n.d.) https://www2.deloitte.com/content/dam/Deloitte/in/Documents/tax/in-tax-alert-gbt-cbdt-issues-guidelines-for-application-of-principal-purpose-test-noexp.pdf.
[7] EY, ‘CBDT Issues Guidance on Application of Principal Purpose Test’ (EY, January 2025) https://www.ey.com/content/dam/ey-unified-site/ey-com/en-in/alerts-hub/2025/01/cbdt-issues-guidance-on-application-of-principal-purpose-test.pdf.
[8] Ibid.
[9] ThetaxTalk, ‘CBDT Clarification on Applicability of PPT While Granting Treaty Benefits’ (ThetaxTalk, January 2025) https://thetaxtalk.com/2025/01/cbdt-clarification-on-applicability-of-ppt-while-granting-treaty-benefits/.
[10] Vodafone International Holdings B.V. vs. Union of India (UOI) and Ors. (20.01.2012 – SC) : MANU/SC/0051/2012.
[11] Ibid.
[12] Chief Settlement Commissioner, Rehabilitation Department, Punjab and Ors v Om Prakash and Ors [1968] 3 SCR 655 (SC, 5 April 1968).
[13] State of M.P. v B.L. Kaul and Ors [1999] MANU/MP/0257/1999 (MPHC, 16 August 1999).
[14] Supra at 1.
[15] Supra at 10.
[16] M Lang, Introduction to the Law of Double Taxation Conventions (2nd edn, IBFD and Linde Verlag 2013) 66.
[17] L De Broe and J Luts, ‘BEPS Action 6: Tax Treaty Abuse’ (2015) 43 Intertax 2 124.
[18] Ibid.
[19] Supra at 4.
[20] L De Broe, International Tax Planning and Prevention of Abuse: A Study under Domestic Tax Law, Tax Treaties and EC Law in Relation to Conduit and Base Companies (IBFD 2008) 315–316.
[21] S van Weeghel, ‘General Report’ in Tax Treaties and Tax Avoidance: Application of Anti‑Avoidance Provisions, sec 2.5 (IFA Cahiers vol 95A, 2010) Online Books IBFD.
[22] OECD, ‘BEPS – Frequently Asked Questions, question 43’ (OECD 2017) http://www.oecd.org/ctp/beps-frequentlyaskedquestions.htm#Action6.
[23] OECD, ‘Frequently Asked Questions on the Multilateral Instrument (MLI), p. 8, question 30’ (OECD 2017) https://www.oecd.org/tax/treaties/MLI-frequently-asked-questions.pdf.
[24] K Perrou, ‘The Juridical Application of Anti‑Avoidance Doctrines in Greece and its Impact on International Tax Law’ (2006) 34 Intertax 2 108–9.
[25] V Lowe, ‘How Domestic Anti‑Avoidance Rules Affect Double Taxation Conventions’ in Proceedings of a Seminar held in Toronto, Canada, in 1994 during the 48th Congress of the International Fiscal Association (IFA Congress Seminar Series vol 19C 1994).
[26] C Evans, ‘Containing Tax Avoidance: Anti‑Avoidance Strategies’ in GJ Head and R Krever (eds), Tax Reform in the 21st Century: A Volume in Memory of Richard Musgrave (Kluwer L. Intl 2009) 536–537.
[27] Supra at 20.
[28] R Karadkar, ‘Action 6 of the OECD/G20 BEPS Initiative: The Effect on Holding Companies’ (2017) 71 Bull Int’l Taxn 3/4.
[29] Q Jiang, ‘Treaty Shopping and Limitation on Benefits Articles in the Context of the OECD Base Erosion and Profit Shifting Project’ (2011) 69 Bull Int’l Taxn 3, sec 1.
[30] P Baker, ‘Improper Use of Tax Treaties, Tax Avoidance and Tax Evasion’ (UN 2013) Paper No 9‑A, pp 4 and 13.
[31] Ibid.
[32] AB Moreno, ‘GAARs and Treaties: From the Guiding Principle to the Principal Purpose Test. What Have We Gained from BEPS Action 6?’ (2017) 45 Intertax 6/7 435.
[33] Supra at 27.
[34] A Rust, ‘Article 1 – Persons Covered’ in A Rust and E Reimer (eds), Klaus Vogel on Double Taxation Conventions (4th edn, Wolters Kluwer Law & Business 2015) 126, n 57.
[35] FA Engelen, Interpretation of Tax Treaties under International Law (IBFD 2004) 275, Online Books IBFD.
[36] F Van Brunschot, ‘The Judiciary and the OECD Model Tax Convention and its Commentaries’ (2005) 59 Bull Int’l Taxn 1, sec 2.7.
[37] Ibid.
[38] S Picciotto, International Business Taxation. A Study in the Internationalization of Business Regulation (Cambridge University Press 1992) 15–16.
[39] T S Adams, ‘Interstate and International Double Taxation’ in R Magill (ed), Lectures on Taxation (CCH 1932) 112–113.
[40] Ibid.
[41] H J Ault, ‘Some Reflections on the OECD and the Sources of International Tax Principles’ (2013) 70 Tax Notes International 12, 1195.
[42] League of Nations, Double Taxation and Tax Evasion: Report Presented by the Committee of Technical Experts on Double Taxation and Tax Evasion (League of Nations Publications 1927) 23.
[43] J Wouters and M Vidal, ‘The International Law Perspective’ in Tax Treaties and Domestic Law (Maisto edn, EC & International Tax Law Services/IBFD 2006) 21–22, Online Books IBFD.
[44] R S Avi‑Yonah, Advanced Introduction to International Tax Law (Edward Elgar Publications 2015) 59–65.
[45] Supra at 43.
[46] D M Ring, ‘One Nation Among Many: Policy Implications of Cross‑Border Tax Arbitrage’ (2002) 44 Boston College Law Review 79, 79–173.
[47] Y Brauner, ‘An International Tax Regime in Crystallization’ (2003) 56 Tax Law Review 2, 264, 288 and 291.
[48] Ibid.
[49] M A Kane, ‘Strategy and Cooperation in National Responses to International Tax Arbitrage’ (2004) 53 Emory Law Journal 1, 89.
[50] A H Rosenzweig, ‘Harnessing the Costs of International Tax Arbitrage’ (2007) 26 Virginia Tax Review 588, 590 and 598.
[51] Supra at 48.
[52] FI: ECJ, Opinion of AG Kokott, 12 September 2006, Case C‑231/05, Oy AA, para 56, ECJ Case Law IBFD.
[53] B Kuźniacki, ‘Discretionary Benefits Provisions under the MLI – A Vicious or Virtuous Circle?’ (2017) Tax Notes International 39–51.
[54] F Zimmer, ‘General Report’ in Form and Substance in Tax Law (IFA Cahiers vol 87A, 2002) 61–62, Online Books IBFD.
[55] Ibid.
[56] Supra at 24.
[57] J Sasseville, ‘Tax Treaty Perspective: Special Issues’ in Tax Treaties and Domestic Law (Maisto edn, EC & International Tax Law Services/IBFD 2006) 55–59, Online Books IBFD.
[58] S Van Weeghel, ‘The Improper Use of Tax Treaties: With Particular Reference to the Netherlands and the United States’ (1998) Kluwer L Int’l 258.
[59] O Koriak, ‘The Principal Purpose Test under BEPS Action 6: Is the OECD Proposal Compliant with EU Law?’ (2016) 56 Eur Taxn 12, 557.
[60] G Marino, ‘The Burden of Proof in Cross‑Border Situations (International Tax Law)’ in G Meussen (ed), The Burden of Proof in Tax Law sec 4.1 (IBFD 2013) Online Books IBFD.
[61] Ibid.
[62] Supra at 46.
[63] K‑D Drüen and D Drissen, ‘Burden of Proof and Anti‑Abuse Provisions’ in G Meussen (ed), The Burden of Proof in Tax Law sec 2.1.2 (IBFD 2013) Online Books IBFD.
[64] P Pistone, ‘Public Discussion Draft BEPS Action 3: Strengthening CFC Rules Comments by Prof Dr Pasquale Pistone’ in Public Comments Received on Discussion Draft on Action 3 (Strengthening CFC Rules) of the BEPS Action Plan – Part 2 (OECD 2015) 445
[65] Supra at 4.
[66] B Kuźniacki, ‘Strengthening CFC Rules in a Compatible Way with EU Law under BEPS Action 3 in Light of the European Commission’s Proposal – A Critical Evaluation’ in R Danon (ed), Base Erosion and Profit Shifting (BEPS): Impact for European and International Tax Policy (Schulthess 2016) 138.
[67] P Baker, ‘The Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting’ (2017) 3 British Tax Review 283.
[68] Ibid.
[69] Committee Comments on Treaty Shopping, Committee on Foreign Relations Report to the Ratification of the US‑Sweden Income Tax Treaty (104th Congress Exec Rpt, Senate 1st Session 104‑4 1995) 12.
[70] J Hattingh, ‘The Multilateral Instrument from a Legal Perspective: What May Be the Challenges?’ (2017) 71 Bull Int’l Taxn 3/4, sec 5 (Journals IBFD).
[71] M Matczak, ‘Three Kinds of Intention in Lawmaking’ (2017) 36 Law and Philosophy 6, sec V, 10.
[72] M Stuart, ‘Abuse and Economic Substance in a Digital BEPS World’ (2015) 69 Bull Int’l Taxn 6/7 407 (Journals IBFD).
[73] Supra at 69.
[74] Supra at 70.
[75] HD Rosenbloom, ‘O Brave New World: The Looming Rethink of International Taxation in the United States’ (2017) 71 Bull Int’l Taxn 2 66 (Journals IBFD).
[76] C Silberztein and JB Tristram, ‘OECD: Multilateral Instrument to Implement BEPS’ (2016) 23 Int’l Transfer Pricing J 9/10, sec 2.3.1.
[77] B Kuźniacki, ‘Artificial Intelligence’s Tax Treaty Assistant: Decoding the Principal Purposes Test (PPT)’ (Singapore Management University – Tax Academy Centre for Excellence in Taxation, Working Paper, exp pub 2018).
[78] R S Avi‑Yonah and O Halabi, ‘US Treaty Anti‑Avoidance Rules: An Overview and Assessment’ (2012) 71 Bull Int’l Taxn 3/4 242 (Journals IBFD).
[79] Ibid.
[80] Supra at 75.
[81] S Barkoczy, ‘The GST General Anti‑Avoidance Provisions – Part IVA with a GST Twist?’ (2000) 3 Journal of Australian Taxation 1, 35.
[82] Supra at 4.
[83] Atkinson, ‘General Anti‑Avoidance Rules: Exploring the Balance between the Taxpayer’s Need for Certainty and the Government’s Need to Prevent Tax Avoidance’ (2012) 14 Journal of Australian Taxation 1, 32.
[84] Ibid.
[85] Supra at 10.
[86] Supra at 83.
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