CA Anuja Garg

The Authority for Advance Rulings in the case of Steria (India) Limited: AAR No. 1055/2011, while concluding the fact as to whether payment made by Steria (India) Ltd. to Groupe Steria, France for management services constitutes fees for technical services exigible to withholding of tax under section 195 of the Income-tax, Act, 1961 (“the Act”), has stirred up the legal position qua interpretation and scope of protocol to Double Taxation Avoidance Agreements (“DTAAs”). The AAR, narrowing down the scope of the protocol, has held that protocol, though an integral part of DTAA, cannot be treated at par with the DTAA provisions and it would be incorrect to import words/clauses which are not available in the DTAA between two sovereign nations, on the basis of DTAAs with other countries inasmuch as every DTAA has a particular purpose depending upon the relationship between the respective two countries.

The AAR, while making the observations stated supra, has relied on its own decision in the case of Perfetti Van Melle Holding B.V.: 204 Taxman 166, wherein it was observed that a Memorandum of Understanding accompanying the India-US DTAA cannot be considered as an aid to interpret the provisions of the India-Netherlands DTAA.

The judgment pronounced by the AAR gives a restrictive interpretation of the Most Favored Nation (“MFN”) Clause that forms part of most of the double tax avoidance conventions and throws open questions qua interpretation of the MFN clause in the other DTAAs which India has entered into.

The present article, in light of the aforesaid AAR ruling, aims at analyzing the relevance of the MFN Clause and the judicial pronouncements on the said subject.

Most Favored Nation Clause

Most favored nation or MFN clause links bilateral agreements by ensuring that the parties to one agreement are not subjected to a treatment which is less favorable than the treatment provided to other parties under similar agreements. In effect, a country that has been accorded MFN status may not be treated less advantageously than any other country with MFN status by the promising country.

In other words, MFN clause refers to a situation wherein two non-resident taxpayers are given impartial treatment by the source country. In DTAAs, MFN clauses find place when countries are reluctant to forgo their right to tax some elements of income.

An MFN clause can attract ‘more favorable treatment’ available in other treaties only in regard to the same “subject matter”, the same “category of matter” or the “same class of matter”. While the principle is clear, its application may not always be simple or consistent. This principle of ejusdem generis has been applied in the jurisprudence of international tribunals and national courts and by diplomatic practice.

Further, an MFN obligation exists only when a treaty clause creates it. Without a treaty obligation, each country retains the option of discriminating economically among foreign investors.

A typical MFN clause in any Indian DTAA reads as under –

“In respect of Articles 10 (Dividends), 11 (Interest) and 12 (Royalties and Fees for Technical Services) if under any Convention, Agreement or Protocol between India and a third State which is a member of the OECD, India limits its taxation at source on dividends, interest, royalties, or fees for technical services to a rate lower or a scope more restricted than the rate or scope provided for in this Convention on the said items of income, the same rate or scope as provided for in that Convention, Agreement or Protocol on the said items of income shall also apply under this Convention.”

Legal Position

It is a settled position in law that the protocol is an indispensable part of the treaty with the same binding force as the main clauses therein. In his introduction to Double Taxation Conventions (Third Edition), Klaus Vogel, has clarified the role of a protocol and its role in interpreting a treaty. He says, “Protocols and in some cases other completing documents are frequently attached to treaties. Such documents elaborate and complete the text of a treaty, sometimes even altering the text. Legally they are a part of the treaty, and their binding force is equal to that of the principal treaty text. When applying a tax treaty, therefore, it is necessary carefully to examine these additional documents”.

A protocol, therefore, is said to be a treaty by itself that amends or supports the existing treaty.

The aforesaid view has been upheld in the following judgments –

  • P. No. 28 of 1999, In re: [2000] 242 ITR 208 (AAR);
  • Sumitomo Corpn v DCIT: 114 ITD 61 (Del);
  • DCIT v. ITC Ltd.: 76 TTJ 323 (Cal.);
  • DCIT v. Gupta Overseas: 160 TTJ 257 (Agra).

What needs to be remembered is that double tax avoidance agreement is an agreement and not a taxing statute, although it is an agreement about how taxes should be imposed and hence, the principles of literal interpretation do not apply to the interpretation of tax treaties. To find the meaning of words employed in the tax treaties, one has to primarily look at the ordinary meanings given to those words in that context and in the light of its objects and purpose. Literal meanings of these terms are not really conclusive factors in the context of interpreting a tax treaty which ought to be interpreted in good faith and ut res magis valeat quam pereat, i.e., to make it workable rather than redundant.

Elaborating upon the principles governing interpretation of tax treaties, Lord Denning in Bulmer Limited v. S.A. Bollinger: [1972] 2 All ER 1226, said :

“……… ..The treaty …… quite unlike any of the enactments we have been accustomed……………. It lays down general principles. It expresses aims and purposes… ..what are English Courts to do when they are faced with a problem of interpretation ? They must follow the European pattern. No longer must they examine the words in meticulous detail. No longer must they argue about the precise grammatical sense. They must look to the purpose or intent……………”

Attention, in this regard, is also invited to the decision of the Supreme Court in the case of Azadi Bachao Andolan: 263 ITR 706, wherein the apex Court had an occasion to deal with the principles governing the interpretation of tax treaties. The apex Court observed as follows-

“Contrary to an ordinary taxing statute, a tax treaty or convention must be given a liberal interpretation with a view to implementing the true intentions of the parties. A literal or legalistic interpretation must be avoided when the basic object of the treaty might be defeated or frustrated insofar as the particular items under consideration are concerned.


An important principle which needs to be kept in mind in the interpretation of the provisions of an international treaty, including one for double taxation relief, is that treaties are negotiated and entered into at a political level and have several considerations as their bases.”

It is, in this regard, pertinent to take note of the observations of the AAR in the case of Mersen India Private Limited: AAR No. 1074/2010, wherein the query revolved around interpretation of the India-France DTAA as in the case of Steria India Limited (stated supra). In this ruling, the AAR noted the fact that though the convention between India and France along with the protocol was signed on 29.09.1992, the protocol of the said convention indicates that that if any other Convention, agreement or protocol had been signed by India after 01.09.1989 (a date preceding the signing of the DTAA between India and France) with a third state, which is a member of the OECD, in which India limits its taxation at source on fees for technical services to a rate lower or scope more restricted than the rate of scope provided for in this Convention, the same rate or scope as provided for in that Convention, is also to apply under the DTAA. The India-US DTAA which contains a more restricted scope for taxation of fees for technical services was entered into on 12.09.1989, i.e. a date later than the date referred to in the protocol to India-France DTAA (01.09.1989). The AAR delved upon the issue that had the intention been to have an identical tax regime as between India and the USA, the bargaining countries, i.e., India and France, could have adopted similar language for the DTAA, since the India-France DTAA was negotiated post India-US DTAA.

The AAR finally concluded as follows –

“If one were to draw the interference that the intention was not to adopt the parallel provision found in the India-US Convention, in steps the protocol with its abjuration that the other Convention must be given effect to. It is not clear why this confusing process has been adopted. It has also created considerable difficulty in understanding what exactly was the intention behind wording Article 13 in the Convention between India and France in the manner in which it is done. No doubt, as indicated by the Supreme Court in Azadi Bachao Andolan (263 ITR 706), the approach of a diplomat has to be adopted in interpreting a Convention between nations. Even such an approach does not appear to be capable of removing the confusion created by the circuitous process adopted, while entering into the Convention and signing the protocol with France.

10. Clause 7 of the protocol reads:

“…………………… India limits its taxation at source on dividends, interest, royalties, fees for technical services or payments for use of equipment to a rate lower or a scope more restricted than the rate of scope provided for in this convention on the said items of income the same rate or scope as provided….”(emphasis supplied)


One supposes that reading the clause as a whole, it would be appropriate to read the expression “rate of scope” as “rate or scope” in the context. One also supposes that it is open to this Authority or a court to “iron out the creases” if warranted, to give a meaning to the provision. On making that approach, I am inclined to accept the submissions of Counsel for the applicant that both rate of taxation and scope of taxation are brought within the purview of clause 7 of the protocol.”

                                                                                                                     (emphasis supplied)

The AAR, therefore, proceeded with the view that the MFN clause of the India-France DTAA extended to rate of taxation as well as to scope for taxation.

Similar view has been accorded by the AAR in the case of Poonawalla Aviation (P) Ltd., In Re: 343 ITR 202 and in the case of Idea Cellular Ltd., In Re: 343 ITR 381. The observations of the Karnataka High Court in the case of ISRO Satellite Centre: 263 CTR 549, further endorse the importance of protocol in a tax treaty.

The Mumbai Bench of the Tribunal in the case of Tata Iron and Steel Co Ltd.: 69 ITD 292, upholding the supremacy of the protocol, has held that a notification cannot be ultra vires the protocol inasmuch as the treaties are not creation of Legislature, but, are creation of a contract between two sovereign parties, they take effect after there is a regular protocol, ratification and notification. The notification has to be under the terms and conditions prescribed in that protocol.


Interpretation of protocol to a tax treaty has significant and far reaching consequences for cross-border transactions. In view of the efforts to increase liberalization and globalization, it is certain that interpretation of protocol to tax treaties would gain more and more importance. Correspondingly, countries are also becoming aware that MFN clauses can cause erosion of tax for the source state and are, therefore, acting to limit their scope of application.

The view taken by the AAR in the case of Steria India Limited is clearly contrary to the settled legal position qua interpretation of protocol to a tax convention. Even though rulings of AAR do not have binding precedential value, the reasoning holds persuasive value and can be a cause of concern for the taxpayer considering the belligerent tax authorities. It would be, in that view of the matter, a welcome move if notifications are rectified to ensure consistency and remove uncertainty in the international tax regime.

Download AAR Ruling Steria (India) Limited: AAR No. 1055/2011

(Author is working as Senior Executive – Corporate Tax with Wipro Limited at Bangalore)

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