Understanding Key Concepts in DTAAs

Double Taxation Avoidance Agreements (DTAAs) are agreements entered into between two countries to promote trade, ensure tax parity both jurisdictions and provide clarity, fairness, and certainty in cross-border transactions. For tax professionals as well as businesses dealing with international transactions, understanding the fundamental DTAA concepts is essential to correctly apply treaty benefits, avoid disputes with tax authorities, and remain compliant. This article aims to explains some of the important DTAA concepts in simple terms.

1. Most Favoured Nation (MFN) Clause

• Meaning and Purpose: MFN clause is a part of ‘Protocol’ to the DTAA. In simple terms, if India signs a DTAA with another country and grants more favourable tax treatment, then the same favourable treatment should also apply to other countries that have an MFN clause in their DTAA with India. MFN may result in reduction of tax rates (for example, FTS rate reducing from 15% to 10%), or restricting the scope of taxation (such as applying the “make available” condition to FTS definition). Illustrative DTAAs having MFN clause: France, Spain, Netherlands, Sweden, Switzerland, etc.
• Key Considerations: MFN benefit is generally available only if the third country is a member of the Organisation for Economic Co-operation and Development (OECD) at the time of signing/conclusion of its DTAA with India. Its status at the time the MFN benefit is claimed is not the relevant date. The application of MFN clause in India’s tax treaties is not automatic. For MFN benefits to become applicable in India, a specific notification is required under Section 90(1) of the Income-tax Act, 1961 (the Act). This aligns with the position previously clarified by the Central Board of Direct Taxes (CBDT) in Circular No. 3/2022.
• Recent Controversy – MFN Clause and Dividend Taxation for Swiss Companies

In the Indian Supreme Court’s 2023 ruling in the case of Assessing Officer (International Taxation) vs. Nestlé SA, the countries whose OECD membership was considered as the “third country” were Lithuania, Colombia, and Slovenia. The countries claiming the MFN benefit were those with existing DTAAs with India containing MFN clauses, such as Switzerland, the Netherlands, and France.  The core of the dispute was these third Countries (whose status was in question) had signed DTAAs with India before they became members of the OECD. They joined the OECD later. Countries Claiming MFN Benefit (Switzerland, the Netherlands, and France) had earlier DTAAs with India containing MFN clauses, and their taxpayers argued they should automatically receive the same beneficial tax rates India later granted to the third countries.

The Supreme Court ruled that the MFN clause benefit does not apply automatically and requires a separate notification by the Indian government under Section 90(1) of the Income Tax Act, 1961, to be enforceable. For the MFN clause to be invoked, the “third country” must be an OECD member at the time of signing the DTAA with India, not at a later date when it becomes an OECD member.  As a result, the claim for MFN benefits by countries like Switzerland, the Netherlands, and France based on the treaties with Lithuania, Colombia, and Slovenia was rejected because the latter countries were not OECD members when their respective treaties with India were signed.

2. Non-Discrimination Clause

Meaning and Purpose: In simple terms, the non-discrimination clause in DTAAs that India signs with other countries is a rule to ensure fair and equal tax treatment. It prevents one country from taxing people or businesses from the other country more harshly just because they are foreigners (based on nationality, residence, or ownership). The main goal is to promote cross-border trade and investment by making sure foreigners aren’t disadvantaged compared to locals in similar situations. This clause is usually based on Article 24 of the OECD Model Tax Convention, and India’s DTAAs follow a similar structure. Certain examples of Non-discrimination clause are as under:

• A foreign national cannot be taxed more heavily than a domestic taxpayer in similar circumstances.
• A foreign company’s Permanent Establishment (PE) in India should not be taxed more harshly than an Indian enterprise carrying on the same business.
• Expenses such as interest, royalty, or technical fees should not be disallowed only because they are paid to a non-resident.
• Companies in India owned by foreigners shouldn’t be taxed more than those owned by Indians.
• Transfer pricing adjustments are also generally not discriminatory if based on arm’s length principles, irrespective of whether the counter-party is resident or non-resident.

Examples 

The CIT v. Ruchi Soya Industries Ltd. Principle (Source-Based Taxation)

the Court upheld Section 40(a)(i) as a valid source-based compliance mechanism, holding that disallowance for failure to deduct TDS on payments to non-residents is procedural and non-discriminatory. The provision operates based on the tax collection mechanics of cross-border payments, not on nationality, and similar consequences exist for resident payments under Section 40(a)(ia).

The Herbalife International India (P) Ltd. Principle (Residency Discrimination)

In contrast, the Delhi High Court in Herbalife International India (P) Ltd. cautioned against pure residency-based disallowance. It held that where an expenditure is otherwise allowable and would be permitted if paid to a resident, disallowing it solely because the payee is a non-resident AE, without any distinct compliance failure, may violate the non-discrimination clause (Article 24) of the applicable DTAA.

3. Principal Purpose Test (PPT)

• Meaning and Purpose: Over the past few years, several Indian DTAAs (such as Netherlands, France, United Kingdom, Japan, Singapore, Australia, Ireland, etc.) have been modified pursuant to the Multilateral Instrument (MLI) to incorporate the PPT as a minimum anti-abuse standard under the OECD–G20 Base Erosion and Profit Shifting (BEPS) Action Plan (Action 6). India ratified the MLI in 2019 with effect from October 1, 2019, and PPT has become applicable to “covered Indian tax treaties”, generally with effect from FY 2020–21, subject to the bilateral positions adopted by treaty partners. The application is subject to the bilateral positions adopted by treaty partners, as a DTAA is only modified by the MLI if both countries have ratified the MLI and designated the treaty as a “covered tax agreement” (CTA). For instance, while India listed Mauritius as a CTA, Mauritius did not, so the MLI did not modify the India-Mauritius DTAA directly (a separate protocol signed in 2024 but not yet enforced later addressed this). PPT empowers tax authorities to deny treaty benefits where it is reasonable to conclude that one of the principal purposes of an arrangement or transaction was to obtain such treaty benefit. This represents a shift from form-based treaty entitlement to a substance-based evaluation. PPT needs to be evaluated as under:

 Step 5: Final Outcome

 Even where MFN benefits or reduced withholding tax rates are otherwise available under a DTAA, such benefits may be denied if the arrangement lacks commercial substance or is primarily structured for treaty shopping.

• Cases where PPT could fail:
  • Use of shell or conduit companies.
  • Routing income through low-tax jurisdictions without real operations.
  • Transactions executed only for treaty shopping.

4. “Make Available” Condition under FTS / FIS

DTAAs define Fees for Technical Services (FTS) or Fees for Included Services (FIS) to include any consideration payable for rendering any professional, technical or consultancy services. However, in certain DTAAs, there is an addition condition that services will be considered under the definition of FTS/FIS only the service provider “makes available” technical knowledge, experience, skill, know-how, or process to the service receiver. The “make available” condition is satisfied only when the service provider transfers technical knowledge, skill, experience, know-how, or processes to the recipient in such a manner that the recipient can independently apply such knowledge in the future, without further assistance from the service provider. DTAAs with USA, UK, Canada, France and Australia are certain examples where FTS/FIS definition contains the make available clause. Training services is an example where the ‘make available’ conditions gets satisfied.

This clause is one of the most litigated provisions under Indian DTAAs, particularly under treaties with the USA, UK, Canada, and Australia, where courts have consistently emphasized the need for actual transfer of technical capability, not merely rendering of services.

5. Copyright vs. Copyrighted Article (Critical for Royalty Classification)

• Definition of ‘royalty’ under the income tax act includes consideration payable for use of patent, invention, model, design, secret formula or process, copyright, copyrighted article or trademark or similar property. However, use of ‘copyrighted article’ is excluded from the definition of ‘royalty’ in DTAAs. A simple example in this context would be whether you have purchased the rights in a song to re-compose or use the song or merely have the rights to listen to the song (eg. Downloading song on Spotify)
• Classification of payments as Royalty for DTAA depends on whether the transaction involves transfer of copyright or merely supply of a copyrighted article.

6. Documentation and Tax Compliance in India

Where DTAA benefits are claimed in India, robust documentation and statutory compliance become critical. Key compliance and documentation requirements include:

• Tax Residency Certificate (TRC): TRC is mandatory to claim treaty benefit. The same has to be obtained from tax/revenue authorities of the non-resident country by the service provider.
• Electronic Form 10F: Form 10F is mandatory to claim DTAA benefit. The same can be generated from the income tax e-filing website by the service provider.
• Tax Return Filing: Tax return filing for the non-resident becomes mandatory where DTAA relief is claimed.
• Transfer Pricing Compliance: In case of transaction with the related party, filing of transfer pricing audit report along with master file forms becomes mandatory.

Failure to comply may lead to denial of treaty benefits, interest exposure, penalties, and prolonged litigation.

7. Conclusion

A clear understanding of MFN benefits, non-discrimination protection, application of PPT, “make available” tests, and distinction between copyright vs. copyrighted articles is essential for accurate treaty interpretation and tax risk mitigation. These principles significantly impact withholding tax obligations, characterisation of income, treaty eligibility, and defence in assessments or appeals. A comprehensive review of DTAA positions ensures legally robust tax planning, reduces exposure to disputes, and strengthens international tax compliance. In addition to substantive treaty analysis, procedural compliance—such as obtaining TRC, filing Form 10F, and adhering to tax and transfer pricing reporting obligations—plays a decisive role in sustaining DTAA benefits in India.

******

Disclaimer: The above information is intended for academic guidance and is to be used for informative purpose only. The said information is not to be considered as an opinion or advice. The aforesaid information is proprietary and privileged and is not to be used, reproduced and disclosed without consent. It is advisable to check with a subject matter expert before concluding on applicability or non-applicability of any compliance under any legislature. The views expressed are strictly personal.

The above article is authored by Aman Inamdar, Megha Shinde and CA Shravan Suratwala. Aman Inamdar and Megha Shinde are pursuing the Chartered Accountancy course and are currently completing their internship with S.M. Suratwala & Co., Chartered Accountants, Pune. Shravan Suratwala is a Partner at S.M. Suratwala & Co., Chartered Accountants, with over 10 years of post-qualification professional experience in corporate and international taxation, advisory, litigation, compliance, and assurance, and has also worked for more than three years in internal and process audit during his Chartered Accountancy training. The authors can be reached at contact@smsuratwala.com or shravan.suratwala@outlook.com.