The government of India had over the past couple of years made and proposed amendments in the tax law relating to requirement of furnishing tax residency certificates (TRC), so as to be entitled to avail of provisions of applicable double taxation avoidance agreements (treaty) entered into by India. The amendments included the need for the TRCs obtained from the resident country jurisdiction to have prescribed particulars. Specific provisions were also sought to be introduced stating that TRC is a necessary but not sufficient condition for availing tax treaty benefits. With the Indian Revenue Authorities (IRA) increasingly attempting to look at substance over form, there was a concern that these provisions could result in increased litigation while availing legitimate treaty benefits.
The government has recently withdrawn some of these amendments with the stated intent of reducing uncertainty.
Tax residency litigation
In 2000, the IRA sought to deny treaty benefits to certain Mauritius resident companies, pointing out that the beneficial ownership in those companies was outside Mauritius and thus the foremost purpose of investing in India via Mauritius was tax avoidance. The IRA took a stand that Mauritius companies were used as a mere conduit/sham and thus sought to deny the treaty benefits despite absence of a limitation of benefits (LOB) clause in the India-Mauritius tax treaty. However, to clarify, the Central Board of Direct Taxes (CBDT) then issued Circular No 789 dated April 13 2000, stating that the TRC issued by the Mauritius tax authorities will constitute sufficient evidence for treating a person to be a tax resident of Mauritius as well as the beneficial ownership being in Mauritius and thereby entitling claim for treaty benefits.
Further, the Supreme Court of India (SC) in the case of UOI v Azadi Bachao Andolan (263 ITR 706) passed a landmark judgment upholding the aforesaid circular. Subsequently, there was a plethora of judicial precedents holding that TRC issued by the Mauritian tax authorities is a valid document for claiming the benefits under the India-Mauritius tax treaty.
Amendments made in the Finance Act 2012 (FA 2012)
Until recently, there were no specific requirements under the Indian Tax Laws (ITL) to grant treaty benefits to a non resident (NR) taxpayer on the basis of TRC. FA 2012 introduced provisions providing that furnishing of TRC by a NR, containing prescribed particulars, is mandatory to avail treaty benefits. Memorandum to the Finance Bill, 2012 also provided that furnishing of TRC by a NR will be a necessary but not a sufficient condition to claim treaty benefits, though this was not codified in the law. The main intention of bringing in this provision is to provide treaty benefits only to residents of a particular treaty country and prevent residents of a third state from claiming treaty benefits. The aforesaid provisions were made applicable from financial year (FY) 2012-13.
Subsequently, the CBDT came out with rules in this regard. It may be noted that the rules do not specify any standard format in which TRC needs to be obtained by NRs. However, the rules stated that the TRC should contain the following information:
? Name of taxpayer;
? Status of taxpayer;
? Country of incorporation or registration;
? Taxpayer’s identification number in its country of residence;
? Residential status for tax purposes;
? Period for which certificate is applicable; and
? Address of the taxpayer;
Amendments proposed in the Finance Bill 2013 (FB 2013)
The provision that TRC will be regarded as a necessary but not a sufficient condition for obtaining Treaty benefits was proposed to be codified by FB 2013. This led to significant concern amongst the foreign investors as the amendment was perceived to give rise to a lot of ambiguity and uncertainty.
The apprehensions of the investors/ taxpayers were addressed by the finance minister (FM) through a press release stating that the TRC produced by a resident of a country will be accepted as an evidence that it is a resident of that contracting state and the IRA will not go behind the TRC to question residential status. The FM further clarified that in the case of Mauritius, Circular No. 789 continues to be in force, pending discussions between India and Mauritius.
Amendments in Finance Act (FA 2013)
To address the apprehensions of taxpayers, FA 2013 has now deleted the provision which stated that TRC will be regarded as a necessary but not a sufficient condition for obtaining treaty benefits. Also, the requirement to submit TRC in a "prescribed form" is deleted. Having said that, the government has kept some leeway open by providing that in addition to TRC, the taxpayer may be required to furnish such other documents or information as may be prescribed.
Post Finance Act 2013
Though the recent amendment dispenses with the requirement of obtaining TRC in the prescribed format, the requirement that a taxpayer needs to furnish additional documents and information as prescribed will be keenly observed by the NRs. One hopes that this will not put an onerous burden on taxpayers which could result in denial of Treaty benefits to bonafide tax residents on purely procedural grounds.
Correlation with the general anti-avoidance rule (GAAR)
The provisions of the GAAR are introduced in the ITL and are to be made applicable from FY 2015-2016 and onwards. The GAAR provisions are intended to act as a deterrent against abusive tax planning. It is pertinent to note that the GAAR provisions also provide for treaty override which would mean that in a case where GAAR is made applicable, the same will apply despite the fact that a particular provision in a treaty is more beneficial.
Hence, in a case where a NR holds a valid TRC as per the provisions of ITL, treaty benefits may still be denied if provisions of GAAR are triggered. However, it is likely that GAAR provisions will apply only in cases of abusive, contrived and artificial arrangements and will not be applied indiscriminately.
Withholding tax obligation for the payer
A question arises as to whether the payer should be in possession of TRC of payee at the time of remittance. In other words, is the payer obligated to disregard treaty benefits while discharging its withholding tax obligation at the time of remittance, if the payee does not hold a TRC at that time. One may argue that the TRC requirement is applicable only when a claim for treaty benefit is made by the payee/recipient of income and hence is of no relevance to the payer who has obligation to withhold taxes. However, given the harsh consequences of default provisions and disallowance, which may follow, it is likely that the payer of income would act with caution.
Impact of Section 206AA of the Income Tax Act, on tax withholding obligation when TRC is otherwise made available
As per section 206AA of the ITL, the recipient of any sum shall provide his permanent account number (PAN) to the payer/ deductor and in case PAN is not provided taxes need to be withheld at 20% or higher rate, as provided in the respective provisions under which withholding is made. A question may arise as to whether the presence of TRC will obliterate the requirement of obtaining a PAN.
The reference under Section 206AA of the ITL should be with regard to PAN as granted by the tax authorities in India and any tax identification number in overseas jurisdiction may not be regarded as a sufficient compliance under Section 206AA. Thus, mere presence of TRC may not dilute rigour of provisions of Section 206AA and the same would continue to govern irrespective of furnishing of TRC by NR, if PAN is not furnished.
TRC requirement: Unilateral treaty amendment?
A question also arises as to whether a provision mandating NRs to furnish TRC to claim treaty benefits is a unilateral amendment on India’s part. There are countries which have signed treaties mutually agreeing to issue TRC in the settled format to residents of its own country. However, it is not uncommon for countries to insist on evidence of treaty residency before admitting a treaty benefit.
Furnishing of TRC may thus be treated as a procedural requirement and is unlikely to be treated as a unilateral amendment to treaty. Even in the past, India has resorted to various procedural amendments such as obtaining a PAN, which are valid in law and are enforceable to be eligible for treaty benefits. The courts should read down the requirement to suggest that it cannot be so blind or blanket that an omission or defect, howsoever nominal, will exclude treaty benefit – but, may insist on substantial compliance in the facts of the case.
Effect of withdrawal of amending provision
Interestingly, though in a different fact pattern, the SC (pictured left) had an opportunity to consider the effect of deletion of a provision that was introduced, but was never made effective. In the context of taxation of interest-free loans as a perquisite, the ITL was amended in 1984 to include express provisions to tax the perquisite value therein. However, in the Finance Act 1985, the said provisions were omitted with effect from their date of insertion. In a subsequent petition on this issue in the case of V.M Salgaocar (243 ITR 383), the SC, recognising that the intention of the legislature was not to tax interest-free loans as a perquisite, held that the amendments clearly provide a direction on interpreting the provisions. The SC held that the very fact that the statute had to be amended at the first instance to bring the said item within the purview of the expression "perquisite" and it later sought to delete the same from the date of its insertion clearly shows that the legislature never intended to treat interest-free loan or loan at a concessional rate as any benefit or perquisite.
While the above ruling was in a different context, drawing an analogy, one could contend that the new provisions of FA 2013 do provide some guidance on interpreting the issue of tax residency. It may thus be contended that the intention of legislature was always that presence of TRC would constitute sufficient evidence for granting treaty benefits.
Non-introduction of the proposed provision that TRC is “necessary but not sufficient” to claim treaty benefits addresses the valid apprehensions of roving enquiries from the IRA and thus should help to boost the confidence of taxpayers. What is equally helpful is removal of the presentation of TRC in a prescribed format which previously placed a lot of undue pressure on investors, as not all countries may be willing to issue TRCs in a format acceptable to India.
However, the requirement that a taxpayer needs to furnish additional documents and information as prescribed will be keenly observed by the NRs. One hopes that this will not put an onerous burden on taxpayers and will align with FM’s underlying theme which is “to bring clarity in tax laws, a stable tax regime, a non-adversarial tax administration, a fair mechanism for dispute resolution and an independent judiciary”.
Avinash Narvekar (firstname.lastname@example.org), tax partner - Ernst & Young
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