Whether Article 9(1) is illustrative or restrictive!

Article 9(1) of the MC states the ALP that is applicable to commercial and financial relations between
associated enterprises and sets the ALP as the allocation norm. Thus, in situations, where the prices
charged in transactions between associated enterprises differ from the prices (arm’s-length prices) that would be charged in similar or comparable transactions between unrelated or independent enterprises, profits can be adjusted to reflect the true profits that would have been earned if the transactions had taken place at arm’s length.

The interplay of Article 9(1) with the other articles of the tax treaty also depends on whether Article 9(1) should be considered as restrictive or illustrative in nature. Views do exists on both side of the proposition, the same has been presented below:

  • Article 9(1) is restrictive:

Article 9(1) should be considered as restrictive in nature as it covers only TP adjustments and not the transactional adjustments. (i.e. Article  9(1) prohibits adjustments to the profits of an enterprise in excess of an arm’s-length amount (for example, by denying or limiting the deduction of interest paid by a resident to an associated non-resident)[1]). Further, in Para 2 of the OECD MC, it is stated that ‘No re-writing of the accounts of associated enterprises is authorized if the transactions between such enterprises have taken place on normal open market commercial terms (on an arm’s length basis)’. In this regard, Prof. Klaus Vogel also suggested that the treaty provision will act only as a safeguard that any adjustments made will not go beyond the arm’s length standard[2]. Hence, adjustments for an amount exceeding ALP should not be permitted. Further, even if one is to look at Article 25 of the MC, it requires the condition of ‘taxation not in accordance with the provision of this convention………………….’ So, if Article 9(1) is not read as restrictive, then how possibly will a primary adjustment beyond arm’s length ever ‘not be in accordance with the provision of this convention’? Moreover, it would be difficult for Article 7 to restrict the authority of a country in which a PE is located to tax an amount in excess of the arm’s length profits attributable to the PE, but not for Article 9 to do so with respect to associated enterprises; if provisions of Article 9 are not restrictive.[3] In this context, Wittendorff further clarifies that since Article 7(2) requires the contracting state to comply with the arm’s length principle, the legal effect of Article 9(1) must be the same[4].

Furthermore, as mention earlier in Section 1 that OECD MC Commentary also states that: ‘The application of rules designed to deal with thin capitalisation should normally not have the effect of increasing the taxable profits of the relevant domestic enterprise to more than the arm’s length profit, and that this principle should be followed in applying existing tax treaties[5]’. This paragraph also in a way confirms the restrictive nature of Article 9 on domestic provisions/ rules.

  • Article 9(1) is illustrative:

Article 9(1) in no way preclude a country from taxation of profits of its resident entities for amount that are in excess of arm’s length amount because it only provides for a non-binding statement in relation to the arm’s-length principle and a outline for the adjustment of profits[6]. There is convincing indications in the OECD MC, in particular reference several of countries that interpret the article such that it does not bar a profit adjustment under the national s under different conditions.[7] Further, in the commentary on Article 9(2), it is recognized that countries might tax more than the arm’s-length profits of an enterprise and indicates that in such situations, the other country might not obliged to provide for a corresponding adjustment [8]. Also in Article 9(1), the use of permissive word ‘may’ has been made instead of the use of mandatory word ‘shall’[9]. In normal parlance, it is generally understood that where the use of words  may has been referred, the provisions may in such situations may not be interpreted as restrictive rather they are should be interpreted as illustrative. Pertinent to mention, Article 9 is different from the other distributive rules of the treaty in that it deals with the allocation of taxing rights between two residence countries, whereas the other rules deal with the allocation of taxing rights between the source and residence countries. Nevertheless, it might be conflicting to the notion that tax treaty does not restrict a country’s rights to tax its own residents unless it does so explicitly, if Article 9 were to be interpreted in the restrictive manner[10]. This is also pertinent from the wording of Article 1(3)  (where ever Article 1(3) is present) and  Article 1(3) does not have an exception for Article 9(1). Thin Capitalisation Report also stated that Article 9(1) of the OECD MC was also relevant for determining whether a loan could be recharacterized as equity capital and not only for determining the interest rate.[11]

Comments: Prima facie, it seems that an illustrative interpretation may make Article 9(1) superfluous, thereby making its existence meaningless. Such a view may not be consistent with the primary purposes of Article 9 as well. This view was also supported in the General Report for the IFA Congress 1992[12], wherein it is agreed that Article 9(1) should not be construed as being merely illustrative. Incidentally, this also seems to be the prevailing opinion in the General Report for the IFA Congress 1996[13].

However, with Article 1(3) i.e. saving clause in the tax treaties, it is yet to seen that how the provision of Article 9(1) may be considered as restrictive with no exceptions in the relation of its applicability for Article 9(1).         


[1]       Brian J Arnold, ‘The Relationship Between Restrictions on the Deduction of Interest Under Canadian Law and Canadian Tax Treaties’ (2019) 67 Canadian Tax Journal/Revue fiscale canadienne, p.1072.

[2]      Reference in this regard can be placed on K. Vogel, Klaus Vogel on Double Taxation Conventions: A Commentary to the OECD, UN and US Model Conventions for the Avoidance of Double Taxation on Income and Capital with Particular Reference to German Treaty Practice, 3rd ed. (Kluwer), Para 7, Commentary on Article 9, p. 517

[3]   Johannes Becker, Ekkehart Reimer and A Rust, Klaus Vogel on Double Taxation Conventions (Kluwer Law International (2015).p.603.

[4]     J. Wittendorff, The Transactional Ghost of Article 9(1) of the OECD Model, 63 Bulletin for International Taxation. 3, (2009), p. 112.

[5]     OECD (2017), Model Tax Convention on Income and on Capital: Condensed Version 2017, Commentary on Article 9 para 3(c).

[6]     Arnold (n 17), p. 1072.

[7]     OECD (2017), Model Tax Convention on Income and on Capital: Condensed Version 2017, Commentary on Article 9  para 4.

[8]   Reference in this regard can be placed on OECD (2017), Model Tax Convention on Income and on Capital: Condensed Version 2017, Commentary on Article 9  para 6., p. 227.

[9]     Georg Kofler and Isabel Verlinden, ‘Unlimited Adjustments- Some Reflections on Transfer Pricing, General Anti-Avoidance and Controlled Foreign Company Rules, and the Saving Clause’ (2020) 74 Bulletin for International Taxation, p.275.

[10]     Reference in this regard can be placed on OECD (2017): Model Tax Convention on Income and on Capital (Condensed version) Commentary on Article 1, Para. 18 p 59.

[11]    Thin Cap Report (n 17) paras. 48-49.

[12]    Guglielmo Maisto, ‘Transfer Pricing in the absence of comparable market prices: General Report, in IFA, Cahiers de Droit Fiscal International, (1992) Vol. 77a, p. 60-61.

[13]   Detlev J. Piltz, International aspects of thin capitalisation: General Report, in IFA, Cahiers de Droit Fiscal International, (1996) Vol. 81b, p. 69.

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