Double Taxation Avoidance Agreements (DTAA) play a crucial role in international taxation, facilitating smoother trade and investment flows between countries. Section 90 of the Income-tax Act, 1961 empowers the Central Government to negotiate and enter into these agreements with foreign nations. The primary objective of DTAA is to prevent double taxation on the same income, thereby fostering economic growth and enhancing investor confidence. This article delves into the significance of DTAA, their objectives, and the principles governing their interpretation.
Section 90 of the Income-tax Act, 1961 provides power to the Central Government to enter into agreements with Foreign Countries. The growth of investment flows between countries depends on the prevailing investment climate. The objectives of the bilateral tax treaties include the protection of taxpayers against double taxation to improve the flow of international trade & and investment and the transfer of technology. The bilateral tax treaties aim to prevent discrimination between foreign investors and local taxpayers and to provide a reasonable element of legal and fiscal certainty as a framework within which international operations can be confidently carried on. The bilateral tax treaties consider the economic power of the parties to the treaty. The bargaining power of the countries, the aim of inviting investments, and the development of infrastructure are major considerations while entering into tax treaties. This aspect was highlighted by the Supreme Court in Vodafone International Holding Ltd v. Union of India (2012) 6 SCC 613.
General Rule of Treaty Interpretation
Article 31(1) of the Vienna Convention on the Law of Treaties states that a treaty shall be interpreted in good faith and in accordance with the ordinary meaning to the terms of the treaty in their context and in light of its object and purpose. The Vienna Convention provides the principle of pacta sunt servanda which means that treaties should be interpreted in good faith. Article 18 of the Vienna Convention provides that each contracting state to a tax treaty is obliged to refrain from acts which would defeat the object and purpose of a tax treaty at the time of signing of the tax treaty.
Classifying Income under the Head “Other Income”- Article 23 of India-UK DTAA
Article 23 of India- UK DTAA dealt with “Other Income”. It covers the income which are not dealt with in the foregoing Articles of this Convention. In ACIT v. Karan Thapar (2014), India-UK DTAA was in consideration. The question that arose before ITAT, Delhi was whether the family pension is covered by Article 23 (3) of the DTAA. Tribunal held that the word “Pension” used in Article 20 (2) is distinct from “Family Pension”. The meaning of the word “pension” means any payment in consideration for past employment. Here, the assessee was not in employment with the company hence the income derived from “Family pension” is covered in residuary Article 23, not under Article 20 (2) of the DTAA.
Interpretation of Phrase “May be taxed” provided in Paragraph 3 of Article 23 of India- UK DTAA: Position prior to Notification no. 91, dated 28-08-2008
While considering different articles under distinct heads in which the phrase “may be taxed” was used, various Courts and Benches held the phrase “may be taxed” can be read as exclusive jurisdiction provided to the source country to tax such income. In P.V. A.L. Kulandayan Chettiar v. ITO (1983), the Hon’ble Tribunal held that the word “may be” in Article 6(1) of India-Malaysia DTAA empowered only the Malaysian Government to tax income from properties situated in Malaysia. In CIT v. SRM Films (1994), wherein the assessee, an Indian resident generated income in Malaysia. The assessee argued that Malaysian income should not be considered as part of the total income in India, based on the agreement to prevent double taxation. It was held that the term used in the article is “may be taxed”, which means to ensure the taxation of income in the country of its source and the place where the income arises, not in the country of residence. In Pooja Bhatt v. DCIT (2008), wherein India- Canada DTAA was in consideration, the tribunal held that the expression “may be taxed in other State” authorises only contracting state of source to tax such income.
Interpretation of Phrase “May be taxed” provided in Paragraph 3 of Article 23 of India- UK DTAA: Post 2008 Notification
The Central Government issued a notification dated 28-08-2008, clarifying the expression “may be taxed” as when the term ‘may be taxed’ is used in a DTAA, such income shall be included in total income chargeable to tax in India and relief shall be granted following the method for avoidance of double taxation. It provides that the tax credit shall be allowed for the taxes paid in foreign countries. In Technimont Pvt. Ltd v. ACIT (2019), wherein the assessee has received profits from branches in UAE and Qatar, the AO excluded the profits from taxing it in India. The tribunal while considering the effect of the 2008 notification held that earlier judgments including that of the Apex Court stand overruled by the legislative developments.
In Essar Oil v. ACIT (2014), Indo-Oman treaty was in consideration, wherein the Tribunal, while considering the meaning of “may be taxed” in light of 2008 Notification and section 90, held that the phrase “may be taxed” gives non-exclusive taxing right which enables both the States to have the option to exercise the right with or without limitations. In this situation, the credit of taxes is given under the treaty.
Conclusion
Section 90 (3) of the Act provides power to the government to enter into tax treaties with foreign countries. It states that if any term used in the agreement or the act is not defined therein, it shall bear the same meaning as clarified by the government through notification unless the context requires it. The expression “unless the context requires” shows that one can divert from the meaning provided in the notification, if the context permits Notification is non-binding on the assessee. The purposive rule of interpretation shall be applied while interpreting the tax treaties when the phrase or term is not defined in the agreement. Accordingly the phrase “may be taxed” can be constructed as “providing exclusive rights of taxation to source country” as held in the above-mentioned judgments.
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