Noble intent, but treaty partners hold key

Amidst the numerous retroactive amendments put forth in Finance Act 2012, a critical provision seems to have escaped attention — the mandatory requirement for all foreign investors to obtain a Tax Residency Certificate from their base nation to claim treaty benefits.

Prior to this amendment, treaty benefits were extended to all non-residents. The genesis for the TRC requirement can be traced to circular no. 789, issued in April 2000, which clarified that a TRC issued by Mauritius will be treated as sufficient evidence for tax-residence and beneficial ownership. Subsequently, in 2003 the Supreme Court upheld the validity of this circular in the ‘Azadi Bachao Andolan’ judgement.

Fast-forward DTC

The 2012 amendment has made TRC essential for all 84 tax treaties entered into by India. Thus, it has had the effect of fast-forwarding provisions of the Direct Taxes Code, which mandates a TRC for treaty benefit.

Interestingly, the Memorandum to Finance Bill 2012 complicates it by stipulating that TRC is a necessary, but not sufficient condition for treaty benefits. This should be seen in the backdrop of the Supreme Court ruling in the Vodafone case, where it held that TRC does not prevent an enquiry into a tax fraud.

Dilution of status

The wording in the Memorandum has the effect of diluting the sacrosanct status conferred on TRC by the Supreme Court in the ‘Azadi Bachao Andolan’ case.

It should also be seen in the backdrop of the Bombay High Court ruling in the AT&T Birla case, where the India-Mauritius tax treaty benefit was denied and the TRC was disregarded on the ground that the real owner of shares was not a Mauritius tax-resident.

Therefore, TRC may no longer suffice for treaty benefits, and each case will henceforth be weighed on its merits.

While the CBDT notification on September 17, 2012, provides further guidance on the contents of a TRC, the requirement for particulars, such as status of taxpayer (individual, corporation, and so on), country of incorporation, tax identification number or other unique identification number, seems fairly onerous.

Global cooperation

The success of TRC now hinges on the nature of co-operation and support India gets from treaty partner countries. It is possible that the home jurisdiction of a non-resident may have prescribed procedures for TRC, and may not be willing to make deviations.

There may not be enabling provisions in their law to issue TRC. All this may add to the anxiety of foreign investors as they may be denied treaty benefits for no fault of theirs.

The ambiguity over the need for TRC adds to the complexity.

There are no time-limits for obtaining a TRC, leading to uncertainty over whether it should be obtained at the time of deduction of taxes by payer, or filing of tax return, or during scrutiny audit by tax authorities.

While the intent is noble — namely, providing treaty benefits only to genuine residents and preventing residents of a third State from claiming treaty benefits — the attendant issues are likely to throw up procedural challenges and, consequently,unwarranted litigation.

(Naveen Aggarwal is Partner, KPMG in India)

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