Govt scraps plan to make DTC override tax avoidance treaties

The government has dropped its plans to make the direct taxes code (DTC) override double taxation avoidance agreements (DTAAs). It has proposed that the new law would have preferential status over an existing tax treaty only in three situations.

In the revised DTC draft, the finance ministry suggested that the DTC would be the basis for levying tax, if authorities invoked the provisions of either the General Anti-Avoidance Rule (GAAR) or those related to Controlled Foreign Corporations (CFCs). The third condition would be when branch profit tax is levied.

“Essentially, what the government is saying is that the existing system will continue, except under three specific circumstances. So, it is quite welcome,” said Dinesh Kanabar, deputy chief executive officer and chairman — tax for KPMG’s operations in India.

The existing provisions of the Income-Tax Act provide that between domestic law and the relevant DTAA, the one which more beneficial to the taxpayer will apply. One of the exemptions to this is taxing foreign companies at a rate higher than that for domestic companies.

“This limited treaty override is in accordance with the internationally accepted principles. Since anti-avoidance rules are part of the domestic legislation and they are not addressed in tax treaties, such limited treaty override will not be in conflict with the DTAAs. Further, this will not deprive any taxpayer of any intended tax benefit available under the DTAAs,” the revised draft, released this evening, said.

The move to make DTC override existing DTAAs, unless specifically notified, was proposed as many countries with which India had pacts, such as Mauritius, were unwilling to renegotiate the provisions of these treaties. So, it proposed in case of a conflict between the provisions of a treaty and DTC provisions, the one later in point of time would prevail.

The industry complained this would result in a higher rate of taxation on royalty, fees for technical services and interest income, which were taxed in the source country at a concessional rate according to DTAA provisions. Uncertainty over the cost of doing business in India would also affect foreign direct investment, it was argued. Besides, tax consultants said the proposal was against international norms.

The consultants said that by making DTC override the tax treaties in cases where GAAR was invoked, the government could effectively deal with cases such as companies using the Mauritius route to avoid tax payment.