Abstract
This article provides an overview of the Double Taxation Avoidance Agreement (DTAA) and related provisions under the Income Tax Act, 1961. DTAA aims to address the challenge of double taxation, which arises when the same income is taxed in both the source country (where income is earned) and the residence country (where the taxpayer resides). The article explains the source and residence rules that lead to this conflict and how DTAA resolves it by providing clarity and relief to taxpayers. It also offers a section-wise breakdown of Sections 90, 90A, and 91 of Chapter IX of the Income Tax Act, detailing the mechanisms for tax relief, agreements with foreign countries, and relief for cases where no agreements exist. Key terms and their interpretations are outlined to simplify the understanding of these provisions.
What is Double Taxation Avoidance Agreement?
Mr. Rakesh is a resident in India and has a business in the USA. He earns Rs. 5,00,000 in the FY 2023-24 from his business situated in the USA. Because he used the resources and land of the USA to earn the said income, USA government-imposed tax on Rs. 5,00,000 earned by Mr. Rakesh. Similarly, since he was a resident in India, applying the rule of residence, the Indian government also imposed a tax on Rs. 5,00,000 earned by Mr. Rakesh in the USA. Since Mr. Rakesh has a source of income in the USA and is a resident in India, he is obliged to pay tax on the same income in two different countries, which constitutes to a lot of hardship for Mr. Rakesh.
So, in order to address this issue, the Indian government has included the concept of Double Taxation Avoidance Agreement in the Income Tax Act, 1961.
Double Taxation Avoidance Agreements (hereinafter referred to as “DTAA”) are agreements that are entered between different countries or between specified associations of different countries, in order to avoid the double taxation of the persons earning income in either of the countries.
Source Rule and Residence Rule
The source rule in the taxation laws says that the assessee needs to pay tax on the to the country from where he has earned the income irrespective of where he is a resident of.[1] For instance, if Mr. Rakesh has earned any income from the USA then he needs to pay tax in the USA against that income (Source country) although he is a resident of India.
The term “assessee” generally refers to a person or entity that is subject to assessment, particularly for tax purposes. Here are the key points about its meaning:
On the other hand, Residence rule says that a person needs to pay tax to its residence country on any income which he earns from any country in the world, irrespective of the source of the income. For instance, if Mr. Rakesh is a resident of India and is earning an income from the USA then he will be liable to pay tax on that income in India, since he is a resident of India.[2]
There is always been a conflict in the rule of residence and rule of source in the taxation laws amounting to a confusion among assessee regarding the actual place where the tax is supposed to be paid.
In order to address this issue, there are DTAAs between countries or specified associations to put clarity on the exact place where the tax is needs to be paid and to avoid the double taxation of the same income because of source rule and the residence rule.
Section wise explanation of Income Tax Act, 1961
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Section 90 – Agreement with foreign countries or specified territories[3]
90(1)
The Central Government can make agreements with the governments of other countries or specified territories outside India for several purposes. These include
- providing relief to taxpayers who have paid income tax in both India and the foreign country,
- avoiding double taxation of the same income in both countries,
- exchanging information to prevent tax evasion, and
- assisting in the recovery of income tax.
Such agreements aim to foster better economic relations, trade, and investment between India and the other country or territory. To enforce these agreements, the government can issue necessary provisions through notifications in the Official Gazette.
90(2)
If India has a DTAA with another country, the rules of the agreement will apply. But if Indian tax laws are more favourable for any person then the Indian taxation laws will be applied on that person instead.
90 (2A)
Regardless of what is stated in subsection (2), the rules in Chapter X-A (General Anti Avoidance Rules) of the Act will apply to the taxpayer, even if they are not in their favour.
90(3)
If a term isn’t defined in the Act or agreement, it will mean what the government says in its official notification, as long as it fits the context and doesn’t conflict with the Act or agreement.
90(4)
A non-resident taxpayer can only claim benefits under the agreement mentioned in subsection (1) if they get a certificate from the government of their country or territory confirming they are a resident there.
90(5)
The assessee referred in sub section (4) shall also furnish such other documents as may be prescribed.
Explanation 1
For the removal of doubts, taxing a foreign company at a higher rate than a domestic company is not considered unfair or discriminatory against the foreign company.
Explanation 2
For the purposes of this section, “specified territory” means any area outside India which may be notified as such by the Central Government.
Explanation 3
For the removal of doubts, if a term used in an agreement under subsection (1) is not defined in the agreement or the Act but has been defined in a government notification under subsection (3), the meaning given in the notification will apply as if it has been in effect since the agreement started.
Explanation 4
For the removal of doubts, if a term in an agreement under subsection (1) is defined in the agreement, that definition will apply. If the term is not defined in the agreement but is defined in the Act, the meaning given in the Act or by the Central Government will apply.
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Section 90A – Adoption by Central Government of agreement between specified associations for double taxation relief.[4]
The provisions of section 90 and 90A are very similar to each other.
90A (1)
An association in India can make an agreement with a similar association in another country or specified territory outside India. The Central Government can then issue a notification in the Official Gazette to make rules for implementing the agreement.
The agreement may cover various areas, including:
- Providing relief for income that has been taxed both in India and the other country.
- Avoiding double taxation of income that is taxed in both India and the other country.
- Sharing information to prevent tax evasion or avoidance, and to investigate such cases.
- Helping in the recovery of income tax that is due in both India and the other country.
90A (2)
If an association in India has made an agreement with an association in another country, and the agreement has been officially notified, the rules of the agreement will apply to the taxpayer. However, if the provisions of Indian tax law are more favourable to the taxpayer, those will apply instead.
90A (2A)
Even if the rules in Chapter XA (General Anti Avoidance Rule) of the Act are not favourable to the taxpayer, they will still apply, regardless of what is stated in subsection (2).
90A (3)
If a term is not defined in this Act or the agreement mentioned in subsection (1), it will have the meaning given to it in the notification issued by the Central Government, unless the context suggests otherwise or it conflicts with the Act or the agreement.
90A (4)
A non-resident taxpayer can only claim relief under the agreement mentioned in subsection (1) if they obtain a certificate from the government of the specified territory confirming their residency there.
90A (5)
The assessee referred to in sub-section (4) shall also provide such other documents and information, as may be prescribed.
Explanation 1
For the removal of doubts, taxing a company incorporated in a foreign territory at a higher rate than a domestic company is not considered unfair or unfavourable treatment for that foreign company.
Explanation 2
“Specified association” refers to any institution, group, or organization, whether registered or not, that operates under the laws of India or a foreign territory, and is officially recognized by the Central Government for this section.
“Specified territory” refers to any area outside India that the Central Government designates for this section.
Explanation 3
For the removal of doubts, if a term in an agreement under subsection (1) is not defined in the agreement or the Act but is defined in a notification issued under subsection (3), the meaning given in the notification will apply from the date the agreement started.
Explanation 4
For the removal of doubts, if a term is defined in the agreement made under subsection (1), it will have the meaning given in the agreement. If the term is not defined in the agreement but is defined in the Act, it will have the meaning given in the Act, along with any explanation provided by the Central Government.
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Section 91 – Countries with which no agreement exists[5]
91 (1)
If a person is a resident of India and earns income outside India that is not considered to have accrued in India, and if they have paid income tax on that income in a country that does not have a double taxation agreement with India, they can get a deduction from the Indian income tax. The deduction will be based on the income that was taxed in both countries, at the lower of the Indian tax rate or the foreign country’s tax rate, or at the Indian rate if both rates are the same.
91 (2)
If an Indian resident proves that they earned income in Pakistan during a previous year and paid tax on that income in Pakistan under the country’s laws for taxing agricultural income, they can claim a deduction from their Indian income tax. The deduction will be either:
- The amount of tax paid in Pakistan on the income that is also taxable in India, or
- The amount calculated at the Indian tax rate on that income,
- whichever amount is smaller.
91 (3)
If a non-resident person is taxed in India on their share of income from a registered firm that is considered a resident in India, and that share includes income earned outside India (which is not considered to have been earned in India), and the country where the income was earned does not have a double taxation agreement with India, the person can claim a deduction from their Indian income tax. This deduction will be based on the doubly taxed income and will be the lower of the Indian tax rate or the foreign country’s tax rate, or the Indian tax rate if both rates are the same.
Explanation 1
In this section:
- “Indian income-tax” refers to the income tax charged according to the provisions of the Income Tax Act, 1961.
- “Indian rate of tax” means the tax rate calculated by dividing the amount of Indian income tax (after any relief is deducted under this Act, but before any relief under this chapter) by the total income.
- “Rate of tax of the said country” refers to the income tax and super-tax actually paid in the other country, based on that country’s laws, after deducting all applicable reliefs, but before any relief for double taxation is applied. This is then divided by the total income as assessed in that country.
- “Income-tax” for any country includes any additional taxes, such as excess profits tax or business profits tax, charged by the government or a local authority in that country.
Conclusion
The Double Taxation Avoidance Agreement is a vital framework that prevents financial hardship for taxpayers earning income in multiple countries. By resolving conflicts between the source rule and the residence rule, DTAA ensures that taxpayers are not taxed twice on the same income. Sections 90, 90A, and 91 of Chapter IX of the Income Tax Act play a crucial role in implementing DTAA and offering relief to taxpayers, whether through formal agreements with foreign countries or specified associations or provisions for situations where no agreements exist. These measures not only protect the rights of taxpayers but also promote global trade and investment by fostering economic cooperation between nations.
[1] How to Claim Tax Credit on Foreign Income of a Resident?, ClearTax, (19th June, 2024)
[2] Bijal Ajinkya, Source v. Residence: An Indian Perspective, 4th Residential refresher course on international taxation – current and emerging issues, 63, 63-64 (2010)
[3] The Income Tax Act, 1961, No. 43, Acts of Parliament, S. 90
[4] The Income Tax Act, 1961, No. 43, Acts of Parliament, S. 90A
[5] The Income Tax Act, 1961, No. 43, Acts of Parliament, S. 91
