Global Tax Alert. India s AAR rules MFN clause cannot be used to benefit from make available clause. Detailed discussion

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1 28 May 2014 EY Library Access both online and pdf versions of all EY Global Tax Alerts. Copy into your web browser: Services/Tax/International- Tax/Tax-alert-library#date India s AAR rules MFN clause cannot be used to benefit from make available clause Executive summary This Tax Alert summarizes a recent ruling of India s Authority for Advance Rulings (AAR) in the case of Steria (India) Ltd. (Applicant). 1 The AAR addressed the issue of whether various management services rendered by a French company could be regarded as taxable in India under the India-France Double Taxation Avoidance Agreement (France treaty) 2 by taking into account the Most Favored Nation (MFN) clause as available in the Protocol to the France treaty. The AAR ruled that the restriction in the MFN clause of the France treaty is in relation to rates of taxes but that the make available condition, as provided for in the India-UK treaty, is not included within its scope. Furthermore, the notification 3 (France Notification) issued by the Government of India (GOI) pursuant to the Protocol giving effect to the MFN clause provided only for a lower rate of tax and did not cover the restrictive scope to limit the taxation of services which satisfy the make available condition. Had the intention been so, the same would have been provided in the France Notification, as was the case in the context of the India-Netherlands treaty. Accordingly, at the most, India is under an obligation to limit the rate or scope by a notification but such type of action would not be within the purview of the AAR. Detailed discussion Background The Applicant, a public company, was engaged in providing information technology driven services. The Applicant entered into a management service agreement with Steria France (a Group company), a resident of France, for various management services, such as general management, corporate communications, internal audit, finance-related services, group marketing, and human resource management information services, with a view to rationalize and standardize the business conducted by the Applicant in India in accordance with international best practices.

2 Steria France provided services offshore through electronic media (telephone, fax, etc.) and no personnel visited India for the provision of the services. As per the France treaty, a wider source rule applied to fees for technical services (FTS) and, for this, FTS is defined to mean consideration for any technical, managerial or consultancy services. Though FTS is broadly defined in the France treaty, vide the Protocol to the France treaty, an Indian resident making a payment to a French resident may apply the MFN clause to, inter alia, take advantage of a more restricted scope of source taxation or rate of tax present in any subsequent treaty entered into force by India with an OECD member. As per the France treaty, FTS was taxable at 20% on a gross basis. The France Notification was issued giving effect to the MFN clause which provided for a lower rate of taxation viz., 10%. The France Notification was issued by the GOI amending the France treaty in order to give effect to the MFN benefit for the lower rate of tax. The France Notification makes no reference to the tentative scope of source taxation. In a similar notification, 4 in the context of the India-Netherlands treaty, the MFN benefit has been provided with respect to a lower rate, as well as the narrow scope of the FTS definition i.e., incorporating the make available condition. The taxpayer relied on the source rule of the India-UK treaty wherein taxation for FTS is restrictive and includes, inter alia, payments made for any technical or consultancy services, if such services make available technical knowledge, experience, skill, know-how or processes. The Applicant contended that on an application of the MFN clause in the Protocol to the France treaty, the narrower scope of the definition of FTS, as available in the India-UK treaty, may be applied. Accordingly, since the services do not make available technical knowledge, experience, skill etc., the services rendered should not be regarded as taxable in India. The Tax Authority, on the other hand, contended that the services are FTS in nature and the make available concept is not applicable. In any case, technical knowledge, skill etc., are made available through employee interaction and, hence, the same is taxable in India. AAR s ruling A Protocol cannot be treated at par with provisions contained in a treaty itself, though it is an integral part of the treaty. The restriction in the MFN clause of the France treaty is in relation to rates of taxes and the make available clause cannot be read into the Protocol. Furthermore, the France Notification issued pursuant to the Protocol giving effect to the MFN clause provides only for a reduced rate of tax and does not include anything about the make available clause. Had the intention been so, the same would have been mentioned in the France Notification, comparable to what has been done in the India- Netherlands treaty. The changes in the France treaty on the basis of the Protocol were given effect by the France Notification only. The make available clause cannot be imported into the treaty to change the complexion of the treaty provision. A Protocol or Memorandum of Association can be made use of for interpreting the provisions of a treaty but it is not correct to import words, phrases or clauses not available into a treaty on the basis of treaties with other countries. At the most, India is under obligation, as per the terms of the Protocol, to limit its tax rate or scope as was done in the France Notification, but such type of an action was not within the purview of the AAR. The AAR relied on its earlier ruling in the case of Perfetti Van Melle Holding BV 5 wherein it held that a treaty with one country could not be interpreted in light of a treaty with another country since every treaty is unique to the parties before it and depends upon the relationship between the countries. Since the services rendered by Steria France were technical services under the Indian Tax Laws, as well as under the France treaty, the payments fell within the purview of FTS and, hence, were subject to tax in India and, accordingly, taxes are required to be withheld. 2

3 Implications This ruling suggests a restricted application of the MFN clause to rates of tax only to the France treaty. This is contrary to rulings of the Income Tax Appellate Tribunals (Tribunal) in the cases of DCIT v ITC Ltd. 6 and National Organic Chemical Industries Ltd. v DCIT. 7 In these cases, the Tribunal had held that the Protocol also limits the scope of FTS taxation and, accordingly, restricts source taxation only if the make available clause is satisfied with regard to the applicability of the MFN clause under the France treaty. It may be noted that the France Notification sought to unilaterally amend the France treaty and restrict the applicability of the MFN clause to only a lower tax rate. However, for applicability of the MFN clause (which provides for restricted rate as well as scope) in case of the France treaty, no independent action is required, in contrast to the India-Switzerland treaty which requires a specific action on the part of the Government to implement the MFN clause. The AAR also seems to have suggested the selfcontained approach for each treaty interpretation while, for terms like make available, Indian jurisprudence has adopted a parallel treaty interpretation and has applied the explanation present in the India-US treaty to interpret the scope of similarly worded treaties. 8 Endnotes 1. [TS-285-AAR-2014]. 2. Dated 29 September Notification No dated 6 September 1994, as amended by Notification No. SO 650(E) dated 10 July 2000 issued by GOI. This was clarified to be based on the India-Germany and India-US treaties. 4. Notification No. SO 693(E) dated 30 August AAR/869/ [(82 ITD 239) (Cal)]. 7. [5 SOT 317 (Mum)]. 8. Refer illustratively Intertek Testing Services India (P) Ltd., In Re (2008) 307 ITR 418 (AAR), C.E.S.C. LTD. v DCIT (2003) 87 ITD 653 (Cal)(TM). 3

4 For additional information with respect to this Alert, please contact the following: Ernst & Young LLP (India), Mumbai Sudhir Kapadia Ernst & Young LLP (India), Hyderabad Jayesh Sanghvi Ernst & Young LLP (United Kingdom), Indian Tax Desk, London Nachiket Deo Ernst & Young Solutions LLP, Indian Tax Desk, Singapore Gagan Malik Ernst & Young LLP, Indian Tax Desk, New York Tejas Mody

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