India and China have decided on a progressive step in financial cooperation by revising the current Double Taxation Avoidance Agreement (DTAA). The new amendments incorporated in the protocol include provisions for updating information exchange to align with the latest international standards. Moreover, it includes changes crucial for the application of treaty-related minimum standards outlined in the action reports of the Base Erosion & Profit Shifting (BEPS) Project.
Double Tax Avoidance Agreements (DTAAs): An Overview
DTAA is a tax agreement signed between two or more countries. Its prime goal is to help taxpayers avoid double taxation on the same income. It applies when an individual resides in one country but earns income in another. The scope of DTAAs can range from being comprehensive—covering all sources of income—or limited to specific areas such as the taxing process for income from shipping, air transport, inheritance, among others.
The Importance of DTAA
DTAAs play a crucial role in contributing to a country’s appeal as an attractive investment destination. They provide relief from dual taxation. This relief can be achieved by either exempting foreign-earned income from local tax or by offering credit for taxes already paid overseas. Some DTAAs also offer concessional tax rates.
However, these agreements can sometimes incentivize even legitimate investors to divert their investments through low-tax regimes to avoid taxes. This diversion, in turn, leads to a loss in tax revenue for the home country.
Understanding Base Erosion and Profit Shifting (BEPS)
BEPS refers to tax planning strategies that take advantage of mismatches and gaps in tax rules across different jurisdictions. The aim of these strategies is to minimize corporation tax payable overall. This can be achieved either by making tax profits ‘disappear’ or shift profits to low tax jurisdictions where there is little or no genuine activity.
While BEPS strategies are not illegal, they exploit different tax rules operating in different jurisdictions. BEPS is of significant importance for developing countries due to their heavy reliance on corporate income tax, typically from Multinational Enterprises (MNEs). The BEPS initiative is an OECD initiative, endorsed by the G20, formed to identify ways to standardize tax rules globally.
Key Facts about DTAA and BEPS
| Term | Description |
|---|---|
| DTAA | A tax treaty signed between countries to prevent taxpayers from being taxed twice for the same income. |
| BEPS | Tax planning strategies that exploit gaps and mismatches between different jurisdictions’ tax rules to reduce corporation tax payable overall. |
| OECD | The Organisation for Economic Co-operation and Development approved the BEPS initiative, aiming to standardize tax rules globally. |
DTAA Amendment: Changes According to BEPS Action Reports
The recently signed protocol introduces changes in the existing DTAA as per the BEPS Action reports agreed upon by India and China. This agreement was made under Section 90 of the Income-tax Act, 1961, allowing India to form an agreement with a foreign country or a specified territory for the avoidance of double taxation and for the exchange of information to prevent evasion.