Global Tax Landscape

November 2023

Supreme Court of India interprets application of MFN Clause

The SC recently examined the MFN Clause of the Indian treaties with Netherlands, France and Switzerland and primarily held that a separate notification u/s. 90(1) of the IT Act is required to give effect to any MFN clause that alters the existing treaty provisions. SC further ruled that to import the beneficial provisions of third state treaty, that third state should be an Organisation for Economic Co-operation and Development (“OECD”) member at the time of entering into treaty with India, and not at a later date. [10] 

Overview of MFN clause in tax treaties

∞ MFN embodies the principle of non-discrimination. It ensures a level playing field for all concerned members. 

∞ MFN obligates a country to grant the most favourable treatment to every other country with which it has agreed to MFN clause, that it grants to the first country – ‘favour one, favour all’ – parity!

∞ MFN in Indian tax treaties,

    - Found in: Protocol which is an integral part of the treaty.

    - Nature of income: Generally, covers Dividend, Interest, Royalty and Fees for Technical Services (“FTS”) 

    - India Treaties having MFN clause: India’s treaty with Netherlands, Switzerland, France, Finland, Philippines, Sweden, Belgium, Hungary Spain,

  - Application of MFN: Plain reading of the MFN texts suggest that the MFN clause could be – Automatic, Subject to negotiation, Subject to notification.


∞ Can MFN clause be given effect “automatically” or a “separate notification” is required for the MFN clause to come into effect?

∞ Can lower tax rate in a Third State treaty be adopted, if that State becomes an OECD member subsequent to signing of its treaty with India? 

Background of Case in nutshell

Key Observations on SC Verdict 

∞ The structure and phraseology of Article 253 of the Constitution of India leaves one in no doubt, that it is when a treaty is enacted by law, or enabled through legislation, which assimilates it, that such provisions are enforceable in India.

     - The terms of a treaty ratified by the Union do not ipso facto acquire enforceability.

    - The Union has exclusive executive power to enter into international treaties and conventions and Parliament holds the exclusive power to legislate upon such conventions or treaties.

   - Parliament can refuse to perform or give effect to such treaties.

∞ The word “is” in the expression “is a member of OECD” has a present signification and it derives meaning from the context. Thus, when a third-party country enters into DTAA with India, it should be a member of OECD, for the earlier treaty beneficiary to claim parity.

∞ The structure of the main DTAA, and its phraseology, based on negotiations with the countries concerned, i.e., Netherlands, France and Switzerland, plays a role in the kind of benefits that are assured through it. The structure and terms of other DTAAs might be different; the coverage and definition of certain terms (FTS, establishment, etc.) permanent might be dissimilar. The revenue’s argument that grant of automatic benefits based on the other country’s entry into OECD, as unfeasible, has merit.

∞ SC noted the India has issued separate notifications to give effect to MFN clause in case of India’s DTAA with France and Netherlands. SC exclaimed that, in India, there is established and clear precedent, of behaviour, in relation to treaty practice and interpretation. This was uncontested and is a matter of record.

     - SC also referred to the India Canada DTAA entered into in 1985 wherein the MFN clause categorically states that the clause “will automatically be applied”. In this case also the treaty practice of India was consistent; a separate notification was later issued.

∞ The requirement of notification of the protocol and a separate amending Protocol, (like in the case of France and Netherlands) is necessary, by reason of S. 90 of the IT Act. Switzerland cannot claim an exception, based only on the language of the third Protocol. 

     - Third Protocol of the India-Swiss DTAA appears to be automatic of lower tax rate on dividends, interest, royalties and FTS and subject to negotiation for restricted scope in respect of royalties and FT

    - On the decrees/notifications issued by Netherlands, France, and Swiss on application of MFN clause, SC opined that the status of treaties and conventions and the manner of their assimilation is radically different from what the Constitution of India mandates.

∞ In India, either the treaty concerned has to be legislatively embodied in law, through a separate statute, or get assimilated through a legislative device, i.e. notification in the gazette, based upon some enacted law (some instances are the Extradition Act, 1962 and the Income Tax Act, 1961). Absent this step, treaties and protocols are per se unenforceable.

∞ SC referred to Article 31(3)(b) of the Vienna Conventions, International Law Commission (ILC) Draft conclusions and International Court of Justice (ICJ) decisions on Subsequent Practices to conclude that whilst considering treaty interpretation, it is vital to take into account practice of the parties.

∞ SC observed that it is widely accepted that however precise the treaty text appears to be, the way in which it is actually applied by the parties is usually a good indication of what they understand it to mean, provided the practice is consistent, and is common to, or accepted by, all the parties.

∞ The issue of treaty interpretation and treaty integration into domestic law is driven by constitutional and political factors subjective to each signatory. Domestic courts cannot adopt the same approach to treaty interpretation in a black letter manner, as is required or expected of them, while construing enacted binding law. 

The role of practice is not bilateral or joint practice, but practice by one, accepted generally by the international community as operating in that particular sphere, which is relevant, and at times determinative.

∞ SC is of the opinion that the treaty practice of Switzerland, Netherlands and France is dictated by conditions peculiar to their constitutional and legal regimes. 

Likewise, the treaty practice in India points to a consistent pattern of behaviour when the signatory to an existing DTAA, points to the event of a third state entering into OECD membership, and a resultant trigger event, the beneficial effect given to the later third-party state has to be notified in the earlier DTAA, as a consequential amendment, preceded by exchange of communication (and perhaps, negotiation) and acceptance of that position by India. The essential requirement of a notification u/s. 90 of the IT Act of the consequences of the trigger (or causative) event cannot be undermined. 


In the light of the above discussion, SC held and declared that: 

a) A notification under S. 90(1) of the IT Act is necessary and a mandatory condition for a court, authority, or tribunal to give effect to a DTAA, or any protocol changing its terms or conditions, which has the effect of altering the existing provisions of law. 

b) The fact that a stipulation in a DTAA or a Protocol with one nation, requires same treatment in respect to a matter covered by its terms, subsequent to its being entered into when another nation (which is member of a multilateral organization such as OECD), is given better treatment, does not automatically lead to integration of such term extending the same benefit in regard to a matter covered in the DTAA of the first nation, which entered into DTAA with India. In such event, the terms of the earlier DTAA require to be amended through a separate notification under S. 90.

c) The interpretation of the expression “is” has present signification. Therefore, for a party to claim benefit of a “same treatment” clause, based on entry of DTAA between India and another state which is member of OECD, the relevant date is entering into treaty with India, and not a later date, when, after entering into DTAA with India, such country becomes an OECD member, in terms of India’s practice.

Our Comments

∞ SC has held that separate notification u/s. 90(1) is required to import the beneficial effect of any MFN clause.  

∞ SC verdict is greatly influenced by the “subsequent practice” of unilateral notifications issued in India for giving effect to the MFN clause. Less weight is given to the different wordings of the MFN clause in various Indian DTAA.

∞ While subsequent practice followed by the countries would have persuasive value, one also needs to give due regard to the wordings of the MFN clause. The MFN text in the India-Swiss DTAA, is a classic example of different treatment agreed by both the countries qua rate (automatic) and scope (subject to negotiation). However, the same has been undermined by SC, in light of the subsequent practice followed by India in case of MFN clauses in Netherlands and France treaties where separate unilateral notifications have been issued.

∞ The SC judgement tends to indicate unilateral act of notification by the Central Government would override the bilaterally agreed MFN clause between two sovereign countries.

∞ The decision in a way renders the automatic application of MFN clause otiose. The application of MFN clause is now left to the unilateral mercy of the Indian Government.

∞ SC decision would have far reaching implications on cross border taxation and may be subject to retaliatory measures/clarifications by other countries which are impacted

∞ The SC judgement is now the law of land in India as per Article 141 of the Constitution of India. While the decision entails significant consequences but implementing the same for the past years would be challenging and invite enormous litigation/uncertainties unless CBDT issues appropriate Circular on the same.

∞ Being the law of land now, the SC decision will lead to rectification of orders u/s. 154 or u/s. 254(2), if time limit permits the same, in case where MFN clause benefit is accorded.

Impact on Indian Deductors/Payers

∞ All acts/remittances whereby Indian deductors had based on ITAT and Court orders granted benefit of MFN clause, automatically could be subject matter of proceedings u/s. 201.

∞ While there is no time limit for passing order u/s. 201 qua foreign remittances to non-residents, there are divergent HC orders on reasonable or unlimited time within which the 201 order could be passed. As disallowance a consequence, u/s. 40(a) and reopening for same could also be initiated.

∞ A question also arises as to whether interest liability u/s. 201(1A) could be waived or reduced? (Refer Circular No. 11/2017 dated March 24, 2017)

∞ No penalty may be imposed u/s. 271C for past payments, but henceforth any instances of default by way of non/reduced withholding u/s. 195 could lead to penal consequences.

∞ Where there was grossing up in the arrangement now Indian Companies would be liable to bear additional TDS and thus higher costs. Agreements would need to be reviewed or renegotiated where possible.

∞ Increased compliances:

   - Deductor will have to be vigilant in granting benefit of MFN clause in case of foreign remittances.

   - Chartered Accountants issuing Form 15CBs will have to be vigilant in examining the withholding tax implications.

   - The tax auditor will have to examine any defaults in light of the SC judgement any accordingly, it will impact reporting in clause    21(b) and 34, as the case may be.

Impact on Indian Deductors/Payers

∞ Non-resident will have to factor in this decision while filing Return of Income in India for AY 2023-24.

∞ Non-residents who have already availed the benefit of the MFN clause would be faced with uphill task. If revised return is time-barred then, how would they offer the income to tax suo motto basis SC decision. Also, would these non-residents be entitled to foreign tax credit in their local tax jurisdiction of the income tax paid now for the earlier years.   

∞ A question also arises as to whether interest liability u/s. 234B/234C could be waived or reduced? Refer Order F.No. 400/129/2002-IT(B)], dated 26-6-2006.

 ∞ If refunds are obtained in the past, in light of the automatic MFN clause, the same could now be withdrawn and potential re-opening u/s. 148 can also not be ruled out.

Way Forward

∞ As per sources, review petition against the SC judgement is likely to be filed.

∞ Be vigilant on all overseas remittance before granting any benefit of MFN clause.

∞ CBDT circular on implementation of the SC decision would be welcomed. 

[10] Assessing Officer Circle (Intl Taxn) Vs. Nestle SA (Civil Appeal No.(s) 1420 of 2023)