Last week, Switzerland decided to rescind its unilateral application of the most-favored-nation clause in the protocol to the double taxation agreement between Switzerland and India for dividends with effect from January 1, 2025.
“On the basis of the Indian Supreme Court ruling, the Swiss competent authority acknowledges that its interpretation of para. 5 of the Protocol to the IN-CH DTA is not shared by the Indian side. In the absence of reciprocity, it therefore waives its unilateral application with effect from 1 January 2025,” the Federal Department of Finance said in a statement.
The Question of Judicial Overreach
The revocation of the most-favored-nation clause relates to a Supreme Court ruling that found the issuance of a notification under Section 90 of the Income Tax Act, 1961 to be a “necessary” and “mandatory” requirement and not mere discretion.
“The decision of the Supreme Court is based on a complicated interpretation of local law requirement and the precedence of bilateral and multilateral agreements executed by the Government of India,” said SR Patnaik, Partner (Head – Taxation), Cyril Amarchand Mangaldas,
The top court observed that stipulation in a Double Tax Avoidance Agreement or a Protocol with one nation requires the same treatment concerning a matter covered by its terms, subsequent to its being entered into when another nation (which is a member of a multilateral organization such as an OECD), is given better treatment, does not “automatically” lead to the integration of such term extending the same benefit regarding a matter covered in the DTAA of the first nation, which entered into DTAA with India.
The same is integrated through a separate notification under Section 90 which empowers the Union Government to enter and force agreements with foreign countries.
The role of the Supreme Court is to interpret the law and apply the law in the spirit of the text and context. “I do not believe that the Supreme Court’s ruling can be considered an instance of judicial overreach into foreign policy,” said Ankit Jain, Partner, Ved Jain & Associates.
The Court’s role is to interpret and apply the law in a manner that is both just and equitable. Foreign policy, on the other hand, is the prerogative of the Government.Ankit Jain, Partner, Ved Jain & Associates.
He added, “If the Government perceives that a decision by the Supreme Court might adversely impact foreign policy, it has the authority to issue retrospective notifications to address or amend the implications of the Court’s judgment.”There is an existence of a state duty to enforce the tax treaties through provisions. “The Court underscored the supremacy of the Parliament over executive actions when treaty provisions can impact taxpayer rights,” said Pallav Pradyumn Narang, Partner, CNK
Any deviation or amendment, including those arising from MFN clauses, must align with the constitutional framework and legislative processes.Pallav Pradyumn Narang, Partner, CNK
The other critical point of understanding the difference between judicial prudence and judicial overreach. “It is important to distinguish between judicial review of laws and treaties (a core function of the judiciary) and the negotiation or formulation of foreign policy, which remains under the purview of the executive. Therefore, this ruling reflects judicial prudence rather than overreach,” said Ishaan Mukherjee, Partner, Meta Law Offices
The Supreme Court’s ruling does not constitute judicial overreach into foreign policy. Rather, the judgment is a legal interpretation of the Income Tax Act, 1961, particularly the procedural requirements under Section 90 for the enforcement of international treaties.Pranav Bhaskar, Partner and Head of Corporate Practice, SKV Law Offices
In contrast, the judgment is also said to be in contravention of the existing international norms and principles. “Although the judicial ruling ensures domestic legislative compliance, it overreaches into the foreign policy aspects and implications of the treaty, and in the absence of the court following the Vienna Convention on the Law of Treaties’ (VCLT) principles, the judgment raised numerous questions about the applicability of international interpretation, said Anandaday Misshra Founder & Managing Partner, AMLEGALS
Impact on Global Business
Due to the Supreme Court’s different interpretation of the MFN provisions and not applying the same principle of reciprocity, Switzerland has ordered the restoration of the agreement’s reciprocity.
Under this reciprocation, Switzerland will revert to the previous rate of 10% from 1 January 2025. However, this measure will not affect the free trade agreement between the two countries or Swiss investments in India. “From January 2025, Indian companies operating in Switzerland will face higher taxes, with the withholding tax on dividends increasing from 5% to 10% due to the withdrawal of the MFN clause. This will impact Indian businesses across financial, manufacturing, and technology sectors,” said Anandaday Misshra Founder & Managing Partner, AMLEGALS
Switzerland’s order to revert to the previous rate of 10% from 5% will have an adverse impact due to the rescinding of its unilateral application of the most-favored-nation clause in the protocol to the double taxation agreement between Switzerland and India for dividends after the Supreme Court ruling on the enforceability of the treaty without the notification. “So in essence, the judicial pronouncement has pushed the legislation of another nation to alter matters related to foreign policies,” said Ritika Nayyar, Partner, Singhania & Co.
If it has triggered once, it could happen again and other nations can most certainly take precedence from the same, in case there is any other distinguishing judgment. It most certainly has the power to influence the perception and acts of other nations.Ritika Nayyar, Partner, Singhania & Co.
The development in the backdrop of the Supreme Court’s ruling does create ambiguity on the question of clarity and consistency for the enforcement of foreign treaties.
As discussed above, this issue does create doubts in the minds of other foreign partner countries about India’s ability to provide similar treatment to foreign entities, investors and taxpayers’ negotiated treatments which may also put India in weaker negotiating positions.SR Patnaik, Partner (head – taxation), Cyril Amarchand Mangaldas
This result is due to the indirect implication of the Supreme Court ruling for domestic reasons resulting in a setback in India’s diplomatic relations on the question of enforceability and applicability of the bilateral treaties. “Though in my opinion, the Courts have rightly interpreted the treaty but if we look at things in the broader spectrum, it indirectly impacts India’s diplomatic relations and its commitments under bilateral treaties,” said Alay Razvi, Managing Partner, Accord Juris.
The fundamental role of the court is to interpret the law, and not make a policy-decisions. “In this case, the judiciary’s role has been only to interpret the law which also includes international agreements ratified by the govt. This ruling aligns with principles of sovereignty and transparency, requiring formal notification of treaty terms to ensure compliance with Indian law,” Alay Razvi added.
The Supreme Court ruling other than indirect implication on diplomatic relations, also provided finality for domestic tax interpretation. However, drawing ambiguous lines on the questions of the clarification still is out in the open.
The judgment in the context of interpretations suggests a need for clear drafting. “The judgment provides much-needed finality in terms of the interpretation of tax treaties and the availability of benefits therein. It further emphasizes the need for clear and unambiguous drafting of treaty clauses, particularly MFN clauses, to avoid interpretational disputes,” said Pallav Pradyumn Narang, Partner, CNK.
This serves as a guiding principle for future treaty negotiations, ensuring that policy considerations—especially for developing countries such as India —are safeguarded.Pallav Pradyumn Narang, Partner, CNK.
Due to the clarity, the ruling can affect the methodology and process through which tax treaties go through. “This ruling could influence future tax treaty negotiations and implementation in India, placing more of a focus on formalities and international accords,” said Ishaan Mukherjee, Partner, Meta Law Offices.
For international tax benefits to be realised in India, businesses and tax professionals would probably need to be better aware of the legal and procedural requirements.Ishaan Mukherjee, Partner, Meta Law Offices
Past Precedents
This development is not a stand-alone incident of the Supreme Court impacting the course of business in international parlance. The Supreme Court ruling weighs down clarification of substantive laws, while also interpreting procedural laws. The constitutional court has brought severe implications based on questions related to the interpretation of laws.
The Indian Supreme Court has often considered foreign policy implications in its rulings. For example, in the Vodafone case, where the court also considered the FDI Inflows while interpreting whether the “look through” approach as advocated by the Tax Authorities could be upheld. Similarly, the Azadi Bachao Andolan ruling positively impacted investments routed through Mauritius.Rishabh Malhotra, Counsel, DMD Advocates
Article 142 of the Indian Constitution empowers the Supreme Court to be the settled law of the land. The constitutional mandate to the Supreme Court entrusts the top court to interpret the law, which not only carries a formal impact on the application but also substantial impact considering the size and scale of the interpretation. “The rulings of the Apex Court are the ultimate authority on the interpretation of laws and often carry substantial impact,” said Ankit Jain, Partner, Ved Jain & Associates.
For instance, in the case of Vodafone’s acquisition of Essar’s telecom business, the Court held that capital gains arising from the transfer of shares could not be taxed in India. This judgment was widely welcomed by the global business community, as it provided clarity and reassurance regarding India’s tax framework for cross-border transactions.Ankit Jain, Partner, Ved Jain & Associates
The other precedent was also a case related to the killing of fishermen from India. “In the case of Italian Marines who had killed fishermen off India’s coast, the Courts held that India had the power to prosecute them which led to a significant diplomatic stand-off between India and Italy,” he added.
Going Forward
The Supreme Court interpreted Article 253 of the Indian Constitution, finding the application of the treaties to not be automatic and shall be subject to notification under Section 90 of the Income Tax Act. “On the interpretation of Article 253 of the Constitution, the judgment holds that in India a treaty has to be enacted by law, or enabled through legislation, which assimilates it, and only then such provisions are enforceable in India,” said Saurav Agrawal, Advocate, Delhi High Court.
This judgment differentiates the enforceability of the treatise, interpreting the treaty subject to domestic laws. “Going forward, Foreign Governments would have to take into account this position of law in respect of their existing and future treaties,” Saurav added.
This development is likely to make the government prone to be more cautious during tax negotiations. The tax negotiations will be subject to different factors that are coming into the picture due to this development. The issues such as the enforceability of the bi-lateral treaty, “could get resolved by incorporation of an appropriate clause in the treaty requiring the Government to ensure time-bound assimilation of the treaty into the local laws and all administrative/executive action,” Saurav suggested.
There is a need for the concerned stakeholders to evaluate the procedural robustness of international agreements which can result in aberration of the existing procedural norms due to the ambiguity of the provisions.”This development serves as a reminder for stakeholders to evaluate the procedural robustness of international agreements to prevent ambiguities that could lead to disputes or impact bilateral relations,” said Pranav Bhaskar, Partner and Head of Corporate Practice, SKV Law Offices.
One of the important takeaways from international development is a need for clear legislative action to enforce the applicable treaties before the consequences related to non-enforceable, impacting the diplomatic relations; domestic business, and international signatories with which India has signed treatise.
“The precedent reaffirms the need for clear legislative action to implement treaty provisions, thereby emphasizing the sovereignty of domestic law in matters involving international agreements,” Pranav highlighted.
The Supreme Court ruling brings an approach that ensures co-existence of the international commitment within the the legal framework of domestic law. The idea was to enforce the applicable policy under the statutory requirement, by providing judicial interpretation and ensuring a standard for judicial interpretation of global tax treaties.
This development expects a pragmatic approach from the stakeholders while processing and proceeding with international agreements while keeping in mind a clear legislative action before materializing the agreement to set aside any ambiguities that are likely to affect the businesses.
