Summary: Switzerland has announced the suspension of the Most Favoured Nation (MFN) clause with India, effective from January 1, 2025, due to a Supreme Court ruling in the Nestle case. The MFN clause ensures that countries in a Double Taxation Avoidance Agreement (DTAA) receive the same benefits as other nations within the same parity group. The case involved Nestle, a Swiss company, seeking a refund of withholding tax on dividends, claiming MFN benefits under the India-Swiss treaty. The Supreme Court ruled that the MFN clause does not automatically apply when a country joins the OECD, unless specified in the treaty. This decision reversed a previous judgment, clarifying that the relevant date to claim MFN benefits is the date the treaty was signed, not when the country joins the OECD. As a result, Swiss companies will continue facing a 10% withholding tax on dividends from India, while Indian companies receiving dividends from Switzerland will see their tax burden increase from 5% to 10%. This suspension highlights the implications of the Nestle case and its impact on tax treaties between India and Switzerland.
Let us understand what is MFN Clause?
The MFN Clause is the provision in nearly all the DTA treaties that ensures that a contracting nation receives the same treatment that the other contracting nation offers to any third nation.
Let us take an example to understand more about MFN Clause:
Country I (say India) enters in DTA (Double Taxation Avoidance) agreement with Country U (say USA), (member of OECD) with MFN clause that if India gives any benefit to any other nation who is a member of the same parity group i.e. OECD. Country U will be entitled to the same benefits which were given to the other nation.
If the other nation provides any favourable tax treatment to the third nation, then the contracting nation must receive the same treatment provides that nation meets specified conditions.
An important condition in this is that country should belong to the same parity group.
Purpose of MFN Clause:
1. To promote non-discrimination.
2. To ensure that taxpayers are not disadvantaged based on their country of residence.
Why MFN Clause has been suspended?
Switzerland took this action to suspend MFN Clause because of the landmark ruling of Hon. Supreme Court of India in the case of Nestle which clarified that MFN Clause does not apply automatically when a country joins the OECD, particularly if prior tax treaty is in place.
What is OECD?
The Organisation for Economic Co-operation and Development (OECD) is an international, intergovernmental economic organization of 38 countries. OECD was founded in the year 1961 to stimulate world trade and economic progress.
Most OECD members are high-income economies with a very high Human Development Index (HDI) and are regarded as developed countries. OECD members are democratic countries that support free-market economies.
The main purpose of the OECD is to improve the global economy and promote world trade. It provides an outlet for the governments of different countries to work together to find solutions to common problems.
What was Nestle case?
Nestle (Swiss Company) had sought a refund of withholding tax paid on dividends, claiming the benefit of MFN Clause in India-Swiss treaty. Switzerland was of the view that the lower rates should automatically apply to India but Hon. Supreme Court ruling was against the Swiss Company Nestle.
There were two interesting questions in front of Supreme Court of India:
1. Whether MFN clause applies automatically to a nation after becoming a member of OECD group?
2. What is the relevant date to claim benefit of MFN clause?
Supreme Court reverses the judgement given by Delhi High Court in the case of Steria India by stating
1. A notification under section 90(1) is It is a condition that should be fulfilled for the tribunal to give effect of DTAA or any other protocol that alters its terms and conditions, thus affecting the existing provisions of law.
2. To claim the benefit of the MFN clause, based on the DTAA between India and the third state that is an OECD member, the relevant date is the date when the treaty was entered into with India, not a later date when that country becomes an OECD member.
How this suspension impacts?
1. Indian Companies which are receiving dividends from Switzerland will face an increased tax burden as withholding taxes on dividends will rise to 10% from 5%.
2. Swiss companies that receive dividends from Indian subsidiaries will continue to face a 10% withholding tax, as this tax rate has been applied under the India-Switzerland DTAA.
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