A Most Favoured Nation (‘MFN’) clause in a tax treaty has the impact of replacing the provisions contained thereunder with more beneficial provisions contained in another tax treaty. Very few Indian tax treaties contain such a clause and are generally applicable to taxation of dividend, interest, royalty or fees for technical services. Invocation of the MFN clause to apply beneficial provisions of another tax treaty is generally automatic and does not require any formal Government notification.

As an instance, the MFN clause under the India-Netherlands tax treaty, automatically allows beneficial provisions of another Indian tax treaty (entered into with a country which is a member of Organisation for Economic Co-operation and Development (‘OECD’)) to be applied. Qua dividend taxation, while India-Netherlands tax treaty provides for withholding rate of 10%, India-Slovenia tax treaty provides for 5%^[1] rate. Given that Slovenia became an OECD member on July 21, 2010, the Dutch tax authorities issued a notification acknowledging the applicability of this beneficial rate. However, the Indian tax authorities have been disputing this beneficial rate on the ground that Slovenia was not an OECD member at the time when India-Slovenia tax treaty entered into force and that India has not issued a notification for invocation of the MFN clause under the India-Netherlands tax treaty. Rejecting the contentions raised by the Indian tax authorities, the Delhi High Court^[2], allowed tax to be withheld at the rate of 5% instead of 10% while paying dividends to a Dutch resident.

Recently, the Swiss tax authorities also issued a notification acknowledging the applicability of the 5% withholding rate as per the India-Colombia tax treaty^[3] for the purposes of dividend taxation under the India-Swiss tax treaty. However, they have reserved their right to reverse such application, if Indian tax authorities do not provide reciprocal treatment to Swiss residents. In our view, the required reciprocation is unlikely, which will not only result in litigation in India, but will also lead to incremental tax charge on the dividends received by Indians from Switzerland. Be that as it may, it seems that both the countries have ignored the fact that the application of the MFN clause under the India-Swiss tax treaty with respect to dividends taxation was made automatic since 2011^[4]. Hence, in our view, there was no requirement for any negotiation or any formal notification for the invocation of the MFN clause under the India-Swiss tax treaty qua dividends taxation, which now stands covered by the decision of the Delhi High Court^[5].

[1] The rate of 5% is applicable where the company deriving dividends holds at least 10% of the capital of the company distributing dividend, and is also the beneficial owner of such dividends.

[2] We represented the taxpayer in Concentrix Services Netherlands B.V. vs. ITO, (2021) 434 ITR 516 (Delhi High Court).

[3] The rate of 5% is applicable where the person deriving dividends is the beneficial owner of such dividends without any further conditions.  Since Colombia became an OECD member in 2020, the beneficial provision will also apply qua the India-Netherlands tax treaty.

[4] As per the amending protocol (signed on August 30, 2010 and notified on December 27, 2011), for the automatic operation of the MFN clause, the emphasis is on the signing date of the protocol, which predates the signing of India-Colombia tax treaty.

[5] Supra note 2.