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DTAA from Indian context

Part XII [Article 264 to 300A] of the Constitution of India deals with Finance, Property, Contracts and Suits. Article 265 states “No tax shall be levied or collected except by authority of law.” In Schedule VII at Entry 14 of the Union List, the Government of India is empowered to enter into treaties and agreements with foreign countries and implement such treaties, agreements and conventions with foreign countries. Section 90 of the Income-tax Act, 1961 (the Act) empowers Central Government to enter into an agreement with Government of any country/specified territory outside India.

What is Double Taxation Avoidance Agreement (DTAA)
When a person earns income or income arises to him from more than one country, then the foreign income is liable to income-tax in both the countries i.e. the country where the person is ‘resident’ (in case of ‘resident’ global income is taxable) and the country where the person has earned the income (country of origin/source of income). DTAA is a mechanism which addresses rigors of double taxation.

Objectives of DTAA
Main objective of DTAA is to grant relief in respect of income on which tax is paid in two countries, thereby to avoid double taxation. Other objectives are to promote mutual economic relations, trade and investment between two countries, mutual exchange of information for prevention/investigation of evasion/avoidance of income-tax, and to assist recovery of income-tax and provide legal and fiscal certainty.

Basic understanding of DTAA
It is essential to understand the provisions of Chapter II (Basis of charge) of the Act particularly relating to “Charge of income-tax” (section 4), “Scope of total income” (section 5), “Residence in India” (section 6) and “Income deemed to accrue/arise in India” (section 9) and only if tax incidence arises as per the Act, will the DTAA come into play to determine the rate at which the income should be taxed. As the terminology used for tax laws, treatment of income, method of computation of income and various other concepts relating to deduction, exemption, rebate and relief and complexity involved in various related fields vary from country to country, DTAA gives a scope for better understanding of the provisions of law particularly relating to income-tax and its consequence prevailing in source country. Where there is DTAA, three situations are possible that i) income is taxable in both the countries, ii) income is taxable in one country, and iii) income is tax-free in both the countries. It is seen that where same income is taxed in both countries, the credit of tax payment made in source country (the country where the income arose) is further allowed in resident country (the country where the tax payer resides). Where tax relief has been given by source country, the resident country generally further allows credit for the tax relief, so that the relief obtained from source country is not nullified. Many countries have offered unilateral relief of double taxation though it is not a sound step to the problem of double taxation. In India, under Section 90, 90A and 91 of the Act, relief against double taxation is provided in two ways:

Unilateral relief
To mitigate the hardship of double taxation most of the countries allow unilateral relief to their resident taxpayers, even when there is no DTAA with the source country. In India, unilateral relief is allowed under section 91 where the person is resident in India, there is no DTAA with the source country, the income earned by the person in the source country has been subjected to tax and such taxes have been paid in the source country. The relief is however, restricted to Indian rate of tax or rate of tax of the said country whichever is lower.

Bilateral relief
By virtue of provisions of sections 90 and 90A the Central Government/specified association offer protection against double taxation by entering into DTAA with another country/specified association. The unilateral and bilateral reliefs are provided either through exemption or tax credit.

Models of DTAA
DTAA is generally based on few models. UN Model and OECD Model are most used models of DTAA. Based on bilateral discussions between the countries, DTAA is often modified as agreed by signing countries. Whereas UN Model advocates for the power of country of source to tax, OECD Model leans towards allowing the country of residence to tax. Most of the DTAA signed by India is based on UN Model.

Types of DTAA
Comprehensive DTAA: Comprehensive DTAAs are those which cover almost all types of incomes covered by any model convention. Many a time DTAA covers other direct taxes. India has signed DTAA Comprehensive Agreements with respect to taxes on income with 92 countries and specified territories. These include all SAARC member states except Maldives and Pakistan, OECD Member countries, Australia, China, Germany, France, Russia, UK, USA and others.

Limited DTAA: Limited DTAAs are those which are limited to certain types of incomes only. Limited DTAA in respect to income of airlines with following 8 countries has been signed by India namely Afghanistan, Ethiopia, Iran, Lebanon, Maldives, Pakistan, People's Democratic Republic of Yemen, Yemen Arab Republic.

DTAA and Mutual Administrative Assistance in tax matters for promoting economic cooperation amongst SAARC Member States namely Bangladesh, Bhutan, Nepal, Pakistan, Sri Lanka, have been signed except with Maldives.

Option to make choice between the rates of DTAA/Income-tax laws
Provisions of DTAA override provisions of the Act. Except for provisions of General Anti-Avoidance Rule, where there is DTAA with India, then provisions of the Act shall apply to extent they are more beneficial to tax-payer. But DTAA has no power of chargeability, it can only provide relief.

Composition of a Comprehensive DTAA
Composition of DTAA is generally structured as it is based on some Model. In most DTAA, Article 1 to 5 specify Scope, Taxes covered, Definitions, Resident, Permanent Establishment(PE), Articles 6 to 23 deal with various categories of income and their treatment like Income from Immovable Property(6), Business Profits(7), Shipping, Inland waterways & Air Transport(8), Associated Enterprises(9), Dividend(10), Interest(11), Royalties(12), Capital Gain(13), Independent Personal Services (14), Dependent Personal Services (15), Director’s fee and remunerations(16), Income earned by entertainer and athletes(17), Pension(18,19), Payment received by students and apprentices(20), Other Income(21), Capital (Tax on wealth)(22). Residual - income which is not specifically categorized /defined in Articles 6 to 22 (23). Provisions from Articles 24 to 31 deal with elimination of double taxation, Exchange of information, Diplomatic privilege, Non-discrimination and Miscellaneous provisions.

Rate and jurisdiction under DTAA
DTAA allocate jurisdiction between source and residence country. In case of certain income jurisdiction to tax is agreed to be with both countries, DTAA in such case prescribe maximum rate of taxation in source country which is generally lower than the rate of tax under domestic laws of that country. Double taxation in such cases are avoided by residence country generally by agreeing to give credit of tax paid in source country thereby reducing tax payable in residence country by the amount of tax paid in source country. Whereas DTAA provide specified reduced rates for income in the nature of Dividend, Interest, Royalties, Fees for technical services, received by residents of one country from those in other. Irrespective of general rate of taxation for those four types of income, these specified DTAA reduced rates are applicable. Difficulty of categorizing royalties is that it is mentioned in Article 12, but in some cases it may fall under Business Profits (7), Capital Gain (13), and Independent Personal Services (14) and in such case even jurisdiction to levy tax get challenged. In case of all other nature of income primary objectives is to see whether and condition under which these incomes are taxable in India. Once they are found to be taxable in India, they will be taxable at normal tax as applicable to any other person in India. In case of Salaries it will be taxable in source country only if the person stays there for more than specified No. of days. In case of business if there is a PE or fixed base in source country, In case of capital gains arising out of immovable property in country where the immovable property is situated. In case of professional income if the person has a fixed base and from fixed base professional services are provided. Director’s fees are taxable where the company is resident. To reduce compliance cost generally DTAA and TDS rates for payments made to non-residents are same.

Some areas of concern
To understand DTAA in respect of different types of income it is necessary to go through each DTAA on a case to case basis. For example see Article 13(4) of DTAA with Mauritius, one will find capital gains arising out of transfer of shares of company shall be taxable in the country of residence of shareholder. Therefore if the shareholder is resident of Mauritius and he holds share of a company which is resident in India, then it is not taxable in India and even in Mauritius as there is no capital gains on transfer of share. Such capital gain will get tax-free. Same situation also exists with Cyprus; see Article 14(4). To take advantage of such DTAA, Foreign Institutional Investors get themselves incorporated in Mauritius/Cyprus and invest in shares of Indian company.

Claims in Forms/ITRs
A resident has to apply to AO in Form 10FA to obtain Tax Residency Certificate (TRC) and AO may issue TRC in Form 10FB. TRC may be required for DTAA purpose in foreign country. Persons resident in India has to furnish details of income from outside India and tax relief in Schedule FSI and further summary of tax relief claimed for taxes paid outside India in Schedule TR of all ITRs (except ITR-1, 2A, 4S, as person claiming relief under section 90/90A/91 cannot file these three ITRs).
A non-resident claiming relief under DTAA must have TRC from country/specified territory outside India and further particulars in Form 10F. A non-resident has to furnish details of Capital Gains (not chargeable to tax in India, only for disclosure purpose) and other particulars in Schedule CG of all ITRs. Income chargeable to tax in India has to be shown in respective Parts and Schedules of all ITRs including DTAA income which is to be furnished in Schedule OS of all ITRs (except ITR-1, 2A, 4S).

ITKP on December 10 2015 14:47:01

After reading the article I am now above Zero. I will study the subject further and hope soon will distance myself from Zero. Wink

kiritynandi on February 21 2016 08:49:25

Sir. you are simply unfolding the unknown world to us.

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