Bringing uniformity in double taxation avoidance agreements through MLI

Published: October 22, 2019 2:37:34 AM

Entities can divide the work among various related enterprises such that no activity falls within the time threshold required to constitute an installation PE or a construction PE.

uniformity, double taxation, avoidance agreement, MLI, Multilateral Convention on Measures, DTAA, tax agreement, foreign entity, tax evasionThe amendment brought the domestic law largely in line with the language in MLI.

By Subhashree R

India recently ratified the MLI. Officially termed as the Multilateral Convention on Measures to check Base Erosion and Profit Shifting, MLI is an attempt by nations to bring amendments to the language of the bilateral double taxation avoidance agreements (DTAAs) in a uniform manner. India signed MLI in June 2017 and deposited the instrument of ratification on June 25 this year. The provisions of MLI will impact the provisions of different DTAAs starting from April 2020 onwards.

MLI requires signatory nations to provide for a minimum standard to prevent treaty abuse and improve dispute resolution mechanism. The aim is to ensure entities do not take advantage of differences in the wording of DTAAs resulting in double non-taxation like the case of a global coffee chain in the UK. MLI contains model articles pertaining to permanent establishments (PE), limitation of benefits clause that would limit treaty benefits to only those who qualify as residents of a treaty country rather than shell entities, binding arbitration, and so on. Nations may choose one or more of DTAAs to be a covered tax agreement (CTA), and opt for one or more articles to be incorporated in the existing bilateral treaty. Post ratification, the MLI provisions will have to be read into bilateral treaties. This is hailed as an efficient way to amend treaties without having multiple bilateral negotiations. MLI also seems to provide a better and faster route to bring certainty in interpretation of treaty provisions for both the non-resident taxpayer as regards taxability and for the resident as regards withholding obligations.

India has notified DTAAs with 93 countries as a CTA. But a closer look at the reservations—option by a country not to amend a certain article—suggests India may not have moved forward to counter treaty abuse. Some of India’s major trading partners like China, Germany, Switzerland and Mauritius have not notified India agreements as a CTA. Hence, any change to the DTAA will be effected only through bilateral negotiations. Article 30 of MLI provides a leeway to nations to effect other changes to the treaty by bilateral negotiation even if they haven’t chosen amending provisions as per MLI.

A debated issue is the avoidance of creation of a PE, generally referred to as an agency PE—it’s created if the person who, working on behalf of the foreign entity (FE), can bind the FE. Thus, it was possible for a person to undertake all activities short of contractually binding the FE, and then claim no PE was constituted. India amended the definition of business connection in the domestic legislation (Income-tax Act) to state that if a person has authority to contract or habitually contracts on behalf of another or habitually plays the principal role leading to conclusion of contracts, then it would constitute a business connection and, thus, income attributable to such activity would be taxable in India. Prior to the amendment, these provisions mirrored the provisions of agency PE in DTAAs.

The amendment brought the domestic law largely in line with the language in MLI. But in case the treaty partner does not opt for change in language as per MLI, then the language of the domestic law cannot prevail over the treaty. Thus, amendments to the domestic law per se may not yield the desired results for India in the absence of corresponding amendment in DTAAs.

Many treaty partners have not adopted Article 14 of MLI (avoidance of tax by splitting up of contracts). Entities can divide the work among various related enterprises such that no activity falls within the time threshold required to constitute an installation PE or a construction PE (in respect of project sites). Another method is to split the activities of installation, erection, supervision, etc, among various entities, so that when seen individually, no PE is constituted. Article 14 tries to address both the situations by providing that if either the activity is split among persons such that the aggregate of such activities exceeds 30 days without breaching the overall threshold (say 6-12 months) prescribed in the treaty or they are performed by closely-related enterprises, then a PE may be constituted. But most treaty partners have not opted for this article, even though India has.

The attempt to bring uniformity in language of the treaties and address tax evasion through MLI is laudable. A model draft with nations opting one or more of the articles is definitely a quicker way to amend the treaty. However, nations will seek to protect their stated positions or negotiated positions, and the certainty sought by business as regards taxation by a country and relief from double taxation may yet be elusive. What MLI achieves is perhaps an agreement to agree.

Advocate, Lakshmikumaran & Sridharan. Views are personal.

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