Income-Tax Bill, 2025 introduces Clause 159, which aims to modernize treaty interpretation but also expands the government’s power with potentially retroactive application. While the bill’s stated goals include simplifying tax laws, Clause 159 could impact cross-border operations and investor expectations. This provision allows the government to define treaty terms retrospectively, potentially unsettling the principle that taxpayers can rely on the law as it existed at the time of a transaction. The new framework also introduces a hierarchical approach to interpreting treaty terms, which could allow non-tax legislation to influence treaty definitions. This is a significant change from past practices where only tax laws were considered. The retrospective powers could lead to the reopening of old cases and prolonged litigation, straining relationships with treaty partners and creating uncertainty for investors. To mitigate these risks, the document suggests implementing safeguards like prospective application of interpretative changes, structured public consultations, and the establishment of joint interpretative panels with treaty partners. These measures are proposed to ensure predictability, transparency, and collaborative dialogue, which are essential for maintaining stable cross-border tax outcomes and investor confidence.
I. CONTEXTUALISING THE INCOME-TAX BILL, 2025 IN INDIA’S TREATY FRAMEWORK
The Income-Tax Bill, 2025 (‘Bill’)was recently passed to replace the existing Income Tax Act, 1961. It aims to simplify the provisions of the Act, address the drafting errors in the current version, remove redundant provisions, and integrate technology into the Indian tax administration. While these objectives appear largely procedural, certain provisions go on to reshape the interpretative foundations of the tax system.
The implications of this Bill are far-reaching for professionals engaged in cross-border operations. Clause 159, intended to provide clarity for granting relief from double taxation and to provide mechanisms in line with global best practices to avoid the same, prevent fiscal evasion, the exchange of information, and the recovery of Income Tax, lies at the centre of attention. The provision empowers the Union to define treaty terms and permits retroactive application to those definitions. Such wide powers require a careful review, given their ability and potential to affect the stability of treaty benefits, alter expectations of investors, and reshape India’s engagement with its treaty partners.
Modernising treaty interpretation can help promote greater uniformity in application. However, when it is combined with broad discretionary powers, it risks unsettling established expectations and in creating uncertainty in the navigation of cross-border tax arrangements.
II. CLAUSE 159: EXPANDING THE BOUNDARIES OF TREATY INTERPRETATION
Under the existing regime, Sections 90 and 90A provide that treaty provisions take precedence when they are more beneficial to the taxpayer. Any term not defined is generally interpreted according to the domestic law which is in force at the time of application. Clause 159 retains the beneficial override principle but keeps it subject to domestic anti-abuse. Sub-clause 7 provides for a hierarchical approach to interpret treaty terms, giving first priority to the agreement itself, followed by the Income-Tax Act, and if not defined in either, the meaning assigned to it by a Central Government notification, thereafter any other central tax laws, and lastly, other central laws. Both explanations, as well as notifications, may operate retrospectively.
While the earlier framework was comparatively less complex and more reliant on contemporary domestic law, Clause 159 brings into the picture an approach that is more structured, while also expanding the scope for government intervention. Placing ‘other central laws’ as the final interpretative fallback allows even non-tax legislation to shape treaty terms. This extension represents a substantive deviation from past practices, where references were confined to the tax law and related statutes, and could introduce definitions that were beyond the scope of the original treaty negotiations.
The implications of this clause are heightened when it is examined alongside the Principal Purpose Test under the Multilateral Instrument, as clarified in CBDT Circular No. 01/2025. By shifting the evidentiary burden to the taxpayers without specifying which are the relevant facts, the Circular leaves room for subjective interpretation. Along with Clause 159’s expanded and retrospective definitional powers, this could allow treaty benefits to be denied on uncertain grounds, thereby increasing compliance challenges and the risk of disputes.
III. RETROSPECTIVE APPLICATION AND THE POTENTIAL FOR TREATY OVERRIDE
Among the most far-reaching features of Clause 159 are the retrospective powers conferred by it. By allowing the application of definitions from the date of enforcement of a treaty, the provision unsettles the principle that taxpayers should be able to rely on the law as it stood at the time when the transaction was undertaken. A transaction compliant under the prevailing interpretation could fall within the tax under an expanded definition years later. For instance, a capital gains provision once thought to exclude certain disposals could, through retrospective clarification, be expanded to cover them. This would lead to the reopening of cases and prolonged litigation, particularly in cross-border settings with divergence of interpretations.
Consider a cross-border service arrangement structured on the understanding that no service permanent establishment existed under the treaty definition in force at the time. If, years later, a retrospective notification broadened ‘furnishing of services’ to include certain consultancy activities, the arrangement could suddenly be deemed a taxable presence. This might lead to reassessment for past years, the imposition of interest and penalties, and disputes requiring resolution through the mutual agreement procedure, straining both the taxpayer and relations with the treaty partner.
Retrospective reinterpretation without mutual consultation can be seen by treaty partners as disturbing the balance of negotiated terms, weakening confidence in the relationship, and prompting recourse to mutual agreement procedures. For investors from jurisdictions that place a premium on treaty stability, such changes can influence where capital is deployed and how transactions are designed.
IV. PROPOSED LEGISLATIVE AND POLICY SAFEGUARDS
The objectives on which clause 159 is built would be agreed to by many, but how well these are pursued will go on to determine whether treaty relations remain stable and trusted. How other jurisdictions have dealt with similar issues provides useful lessons for India. From these, three particular measures stand out as particularly relevant.
Firstly, interpretative explanations or notifications affecting the application of tax treaties must, as a general rule, apply prospectively from the date of issue. Retrospective effect should be confined to narrowly defined circumstances and permitted only where expressly agreed upon by the treaty partner through a protocol or a joint declaration. This is in line with established practice in several jurisdictions where domestic clarifications are not given retroactive effect unless they are endorsed by both parties. It preserves taxpayer confidence and reduces the risk of prolonged disputes.
Secondly, before the issuance of any definition or change in meaning under Clause 159, the Government should undertake a structured public consultation lasting at least 30 days. This must include all the potential stakeholders. A draft must be published for feedback from industry bodies, associations, legal experts, and other concerned representatives. This would allow for an in-depth assessment of potential commercial and administrative implications. This would make the Indian framework one where consultation on treaty-related changes helps stakeholders adapt to the evolving interpretations. Such engagement improves the quality of public outcomes while ensuring credibility and trust in India’s relationships with its treaty partners.
Finally, India should consider setting up standing joint interpretative panels with its treaty partners to address issues related to definitions and formalise mutually agreed interpretations, which would carry a binding effect in both jurisdictions. Such kinds of mechanisms reinforce the shared understanding of treaty provisions and help to minimise divergence from the same. These panels can help in expediting the dispute resolution process. They create space for ongoing dialogue, reducing friction in interpretation and allowing issues to be addressed before they escalate into formal disputes or procedural deadlocks.
These safeguards will significantly help in refining Clause 159 without weakening its underlying objectives. They reflect an approach grounded in predictability and mutual respect, qualities which are essential for creating a more reliable environment for cross-border investment and sustained diplomatic engagement.
V. CONCLUSION
Clause 159 of the Bill represents a significant evolution in India’s treaty policy, introducing expanded powers that carry both legal and diplomatic consequences. The provision’s retrospective scope and broad interpretative discretion call for careful recalibration. Strengthening procedural safeguards, encouraging greater transparency, and building collaborative mechanisms with partners can help in preserving the integrity of India’s treaty commitments. These steps are essential to maintain consistency in cross-border tax outcomes and to reinforce trust in India’s evolving tax framework.
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Author: Krishna Dube – B.A. L.L.B (Hons.) student at National Law Institute University (NLIU), Bhopal.
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