Double non-taxation possible under DTAAs

In an interesting decision involving the interpretation of the India-UAE double tax avoidance agreement (DTAA), the Income Tax Appellate Authority (ITAA) has found that once the right to tax an assessee in a specified circumstance was vested in one contracting state under a DTAA, then the exercise of such a right remained the sole prerogative of that contracting state. Furthermore, if the resultant effect of the treaty leads to double non-taxation of such income, then it must be accepted and respected by the other state as a form of international taxation.

An individual assessee residing in the UAE claimed the benefit of article 13(3) under the India-UAE DTAA, which provides that capital gains earned on the alienation of shares are “taxable only in the contracting state of which the alienator is resident”. The issue at hand was whether capital gains on the alienation of shares realized by a UAE resident would be exempt from tax in India under article 13(2) or 13(3), since the UAE did not impose any taxes on an individual.

The relief which was denied by the assessing officer and the Commissioner of Income Tax Appeals was eventually granted by the ITAA bench, relying on one of its earlier decisions in a similar case, ADIT v Green Emirates Shipping and Travel. In that case the ITAA had laid down the position that actual payment of tax in one of the contracting states was not a valid condition to use when assessing the benefits of the DTAA in another contracting state, because a tax treaty prevents not only current but also potential double taxation.

The legislative and regulatory update is compiled by Nishith Desai Associates, a Mumbai-based law firm. The authors can be contacted at nishith@nishithdesai.com. Readers should not act on the basis of this information without seeking professional legal advice.