New Norms for Tax Avoidance Treaties

Table of Contents

Context: The Central Board of Direct Taxes (CBDT) has issued new guidelines regarding the Principal Purpose Test (PPT) under Double Tax Avoidance Agreements (DTAAs).

About the New Norms for Tax Avoidance Treaties

Applicability of PPT: The Principal Purpose Test (PPT) provisions will apply prospectively (i.e., for future transactions).
- Treaty-specific grandfathering provisions under the DTAAs are excluded from the PPT application.
Grandfathering Provisions: This refers to protecting pre-existing agreements from being affected by new rules.
- These provisions in DTAAs with Cyprus, Mauritius, and Singapore will continue to operate independently of the PPT provisions.
Guidance for Interpretation: The circular emphasizes the use of BEPS Action Plan 6 and the UN Model Tax Convention as reference frameworks for interpreting PPT provisions.

What is PPT (Principal Purpose Test)?

It was introduced under BEPS Action Plan 6 by the OECD to prevent treaty abuse.
If the principal purpose of a transaction is to exploit a tax treaty benefit, the PPT can deny such benefits.
- Eg. Setting up a shell company in Mauritius purely to benefit from the India-Mauritius DTAA could trigger PPT provisions.

Double Tax Avoidance Agreements (DTAA)

DTAA is an international treaty between two or more countries designed to prevent the same Income from being taxed twice.
India has signed such agreements with around 90 countries, benefiting individuals who reside in one country but earn Income in another.

BEPS Action Plan 6

BEPS stands for Base Erosion and Profit Shifting, an initiative by the OECD to tackle tax avoidance by multinational corporations.
Action Plan 6 addresses treaty shopping (the use of tax treaties to reduce tax liability by routing investments through countries with favourable tax agreements).
It deals with preventing the misuse of tax treaties through PPT and other measures.

UN Model Tax Convention

A framework created by the United Nations to guide developing countries in negotiating tax treaties.
It focuses on balancing the taxing rights of source and residence countries.