With the Centre having notified all provisions of the pact a few days ago, the new agreement will take effect in respect of incomes derived on or after April 1, 2017, official sources said. The earlier DTAA with Indonesia, signed in August 1987, will cease to have effect.
Some of the significant aspects of the new pact include the introduction of a ‘limitation of benefit’ (LOB) clause and provision for exchange of banking information for tax administration purposes. These measures will support India’s fight against black money. “The introduction of the LOB clause is becoming a trend worldwide. India, too, has been pushing for LOB introduction in all its DTAAs over the last decade,” said Jiger Saiya, Partner-Direct Tax, BDO India.
Saiya said the ‘LOB’ clause aims to deny benefits under a tax treaty to cases of ‘treaty shopping’, a phenomenon that arises when third-country residents claim benefit under a favourable bilateral tax treaty regime, usually without having any significant presence in the second country.
Amit Maheshwari, Partner, Ashok Maheshwary & Associates, said the new treaty allows domestic anti-avoidance rules to override the tax treaty. This is significant as the General Anti-Avoidance Rule (GAAR) is expected to be enforced from April 1, 2017, he added.
Currently, India’s tax treaties with more than 35 countries provide for an LOB clause. Thus, taxpayers would be assessed under domestic tax laws, Saiya said. India has entered into over 80 DTAAs with different countries.
A classic example of ‘treaty shopping’ would be the routing of investments through Mauritius, which until recently accounted for a lion’s share of investment flows into India. In the absence of an LOB clause in the India-Mauritius DTAA, investors leveraged the benefits of capital gains taxation under this treaty.
LOB vs GAAR
GAAR is subjective and much wider in application and would require approval of the higher authorities before being invoked. However, the LOB clause is more specific, direct and can be applied in a scenario where the entity claiming benefit does not meet the prescribed criterion, Saiya noted.
There are apprehensions that a unilaterally notified GAAR should not override provisions of a tax treaty.
However, the recently notified India-Indonesia tax treaty provides that anti-abuse provisions under the domestic tax law (such as GAAR, in India’s case) can be applied irrespective of the provisions of the tax treaty, he added.