Non-discrimination clause in tax treaties – Select issues and recent developments – Part 5

In part 4 of the series, I have discussed Article 24(3) which deals with PE non-discrimination in detail. In this part, I will discuss Article 24(4) which deals with deductibility based non-discrimination.

As per this clause, there should be no discrimination on the basis of the recipients of disbursements between a resident and non-resident as regards deductibility of amounts paid as interest, royalties and other disbursements by an enterprise to the residents of the other Contracting State.

Example – Where a resident of State ‘A’ pays interest, royalties or other disbursements to a resident of State ‘B’, then, the rules for deductibility of such payments in computing taxable profits of the resident of State ‘A’ should be the same as areapplicable in respect of the payments made to another resident of State ‘A’ itself.

Wordings of Article 24(4) as per the Model Convention is mentioned below

Certain points to be considered  –

  • Payment of interest, royalties or other disbursements made by a resident of contracting state to the resident of other contracting state
  • Hence, not only interest or royalties, in view of the expression ‘other disbursements’, clause 4 also prohibits discrimination in the allowance of other deductions, being reasonable allocation of the executive and general administrative expenses, research and development expenses and other expenses incurred for the benefit of a group of related persons that includes the person incurring the expenses. Reference in this regard can be placed on US technical explanation
  • Any denial of deductions on account of ALP application is not subject to non-discrimination
  • This paragraph equally applies to debts for the purposes of determining the taxable capital. However, this part may not be relevant for India as there is no tax on capital

Principles emanating from certain Indian judicial pronouncements –

  • Section 40(a)(i) provides for a disallowance of payment made to a non-resident where withholding is not deducted on such payment. However, where such similar payment are made to the resident, no such disallowance (now though 30% is disallowed for payments to residents also) is made. Deduction non-discrimination clause of the tax treaty seems to neutralize such dis-allowance on payments to non-residents (CIT vs Herballife International India (P.) Ltd.(2016) 384 ITR 276 (Delhi)/ DIT vs Citibank NA (2015) 377 ITR 69 (Delhi)/ Mitsubishi Corporation India Pvt. Ltd. V DCIT (ITA No. 5402/Del/11)) <<Pertinant to note, Protocol to the India-Spain DTAA provides that payments by way of interest, royalties and FTS made by an enterprise of India to a resident of Spain, shall not be allowed as a deduction for the purpose of determining the taxable profits of such Indian enterprise unless tax has been paid or deducted at source from such payments under Indian law and in accordance with the provisions of the said DTAA>>
  • ‘Other disbursements’ connotes something other than ‘interest and royalties’. If the intention was that ‘other disbursements’ should also be in the nature of interest and royalties then the word ‘other’ should have been followed by ‘such’ or ‘such like’. (CIT vs Herballife International India (P.) Ltd.(2016) 384 ITR 276 (Delhi))
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