Action Plan 6 – Prevention of Treaty Abuse - International Taxation - Income Tax

Action Plan 6 Prevention of Treaty Abuse Minimum Standard - BEPS Action 6 addresses treaty shopping through treaty provisions whose adoption forms part of a minimum standard that members of the BEPS Inclusive Framework have agreed to implement. It also includes specific rules and recommendations to address other forms of treaty abuse. Action 6 identifies tax policy considerations jurisdictions should address before deciding to enter into a tax agreement. The Express Statement As set out in paragraphs 22 and 23 of the Final Report on Action 6, jurisdictions have agreed to include in their tax agreements an express statement that their common intention is to eliminate double taxation without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance, including through treaty-shopping arrangements. The following preamble now appears in the 2017 OECD Model Tax Convention: Intending to conclude a Convention for the elimination of double taxation with respect to taxes on income and on capital without creating opportunities for non-taxation or reduced taxation through tax evasion or avoidance (including through treaty-shopping arrangements aimed at obtaining reliefs provided in this Convention for the indirect benefit of residents of third States) Three Methods of Addressing Treaty Shopping Jurisdictions have also committed to implement that common intention through the inclusion of treaty provisions in one of the following three forms: a principal purpose test (PPT) equivalent to paragraph 9 of Article 29 of the 2017 OECD Model Tax Convention together with either a simplified or a detailed version of the limitation on benefits (LOB) rule that appears in paragraphs 1 to 7 of the 2017 OECD Model; or the PPT alone; or a detailed version of the LOB rule together with a mechanism (such as a treaty rule that might take the form of a PPT rule restricted to conduit arrangements, or domestic anti-abuse rules or judicial doctrines that would achieve a similar result) that would deal with conduit arrangements not already dealt with in tax treaties. Section A: Treaty Anti-abuse Rules Section A of this report includes new treaty anti-abuse rules that provide safeguards against the abuse of treaty provisions and offer a certain degree of flexibility regarding how to do so. These new treaty anti-abuse rules first address treaty shopping, which involves strategies through which a person who is not a resident of a State attempts to obtain benefits that a tax treaty, concluded by that State, grants to residents of that State, for example by establishing a letterbox company in that State. Section A also includes new rules to be included in tax treaties in order to address other forms of treaty abuse. These rules address: certain dividend transfer transactions intended to lower artificially withholding taxes payable on dividends; transactions that circumvent the application of the treaty rule that allows source taxation of shares of companies that derive their value primarily from immovable property; situations where an entity is resident of two Contracting States, and situations where the State of residence exempts the income of permanent establishments situated in third States and where shares, debt-claims, rights or property are transferred to permanent establishments set up in countries that do not tax such income or offer preferential treatment to that income. The report recognises that the adoption of anti-abuse rules in tax treaties is not adequate to address tax avoidance strategies that seek to circumvent provisions of domestic tax laws; these must be addressed through domestic anti-abuse rules, including through rules that will result from the work on other parts of the Action Plan. The report also addresses two specific issues related to the interaction between treaties and domestic anti-abuse rules. The first issue relates to the application of tax treaties to restrict a Contracting State s right to tax its own residents. A new rule will codify the principle that treaties do not restrict a State s right to tax its own residents (subject to certain exceptions). The second issue deals with so-called departure or exit taxes, under which liability to tax on some types of income that has accrued for the benefit of a resident (whether an individual or a legal person) is triggered in the event that the resident ceases to be a resident of that State. Section B: Clarity of intent to eliminate double taxation without creating opportunities for tax evasion and avoidance Section B of the report addresses the part of Action seeking clarification that tax treaties are not intended to be used to generate double non-taxation . This clarification is provided through a reformulation of the title and preamble of the Model Tax Convention that will clearly state that the joint intention of the parties to a tax treaty is to eliminate double taxation without creating opportunities for tax evasion and avoidance, in particular, through treaty shopping arrangements. Section C: Identifying tax policy considerations before entering into a treaty Section C of the report addresses the third part of the work mandated by Action 6, which was to identify the tax policy considerations that, in general, countries should consider before deciding to enter into a tax treaty with another country . The policy considerations described in that section should help countries explain their decisions not to enter into tax treaties with certain low or no-tax jurisdictions; these policy considerations will also be relevant for countries that need to consider whether they should modify (or, ultimately, terminate) a treaty previously concluded in the event that a change of circumstances (such as changes to the domestic law of a treaty partner) raises BEPS concerns related to that treaty. Implementation of Action Plan 6 The latest peer review on the implementation of the Action 6 minimum standard reveals that a large majority of Inclusive Framework members have modified, or are in the process of modifying, their treaty network to implement the minimum standard and other BEPS treaty-related measures. As in previous editions, the latest peer review report continues to demonstrate the efficiency of the BEPS Multilateral Instrument (BEPS MLI) in implementing the minimum standard. It is by far the main tool of Inclusive Framework members for implementing the minimum standard. The majority of the jurisdictions that have signed the MLI have listed almost all their treaties under the MLI. The provisions of the BEPS MLI have started to take effect with respect to treaties concluded by pairs of jurisdictions that have signed and ratified the BEPS MLI. For the treaties for which the MLI is effective, tax administrations can now use effective treaty provisions to put an end to treaty shopping. Provision under Indian Income Tax Regime Under the MLI Article 7, India has opted in for default option of PPT and the optional Simplified Limitation on Benefits (SLOB) provision. If the other contracting jurisdictions of the MLI has also chosen to apply both the PPT and SLOB, then both the provisions shall be applicable for the concerned Covered Tax Agreement (CTA). In the event, the other contracting jurisdiction has not applied for SLOB, then the PPT test will apply to the concerned CTA. Pursuant to the Action 6 report, any new bilateral tax treaty entered by India factors the recommendations of Action 6 as part of its negotiations and in the final version of the tax treaty. The India-Hongkong tax treaty signed on 18th March 2018 contains the anti-avoidance provisions under Article 28 - Miscellaneous Rules of the tax treaty. Article 28 specifically mentions that the domestic law will override DTAA wherever there is tax evasion or tax avoidance. Further, legal entities not having bona fide business activities will not be eligible for treaty entitlement. The said treaty also incorporates the PPT provisions. Apart from the blanket rule on purpose test for avoidance or evasion of tax under Article 28, other articles in the substantive provisions viz. Articles 10-12 Article 14, also contain a specific clause in the respective articles, that the benefits of the Article(s) shall not be available if the main purpose or one of the main purposes of any person concerned with the creation or assignment of the shares or other rights in respect of which the dividends or royalties or fees for technical services are paid or the debt-claim in respect of which the interest is paid is to take advantage of this Article by means of that creation or assignment. Further, existing tax treaties are being amended bilaterally to include the anti-abuse provisions in these tax treaties such as: LoB clause introduced in India-Mauritius Tax Treaty - On 10th May, 2016, India and Mauritius has signed a protocol amending the India-Mauritius tax treaty at Mauritius. In the said treaty, for the first time, it has been provided that gains from the alienation of shares acquired on or after 1.4.2017 in a company which is a resident of India may be taxed in India. The tax rate on such capital gains arising during the period from 1.4.2017-31.3.2019 should, however, not exceed 50% of the tax rate applicable on such capital gains in India. A Limitation of Benefit (LOB) Clause has been introduced which provides that a resident of a Contracting State shall not be entitled to the benefits of 50% of the tax rate applicable in transition period if its affairs are arranged with the primary purpose of taking advantage of concessional rate of tax. Further, a shell or a conduit company claiming to be a resident of a Contracting State shall not be entitled to this benefit. A shell or conduit company has been defined as any legal entity falling within the meaning of resident with negligible or nil business operations or with no real and continuous business activities carried out in that Contracting State. A resident of a Contracting State is deemed to be a shell/conduit company if its expenditure on operations in that Contracting State is less than Mauritian rupee 15,00,000 or Indian ₹ 7,00,000 in the respective Contracting State as the case may be, in the immediately preceding period of 12 months from the date the gains arise. LoB clause in India-Singapore Tax Treaty - On similar lines, India and Singapore has signed a protocol amending the India-Singapore tax treaty. Capital gains on sale of shares of an Indian company by a resident of Singapore was taxable only in Singapore, if such shares were acquired before 1.4.2017. After amendment of the treaty, capital gains on alienation of shares would be taxable in a similar manner as laid out in India-Mauritius tax treaty, subject to LoB clause. The transition period benefit is also similar to that contained in India-Mauritius Tax Treaty. In respect of shares acquired after 1.4.2017 and sold before 1.4.2019, the expenditure test needs to be met for the 12 month period immediately preceding the date of transfer.