CBDT Issues New Guidelines for PPT under DTAAs

• 25 Jan 2025

Source: TH 

Why in News?  

The Central Board of Direct Taxes (CBDT) has introduced new guidelines for applying the Principal Purpose Test (PPT) under India’s Double Tax Avoidance Agreements (DTAAs), aiming to prevent tax avoidance. 

• These guidelines apply prospectively, with specific exemptions for treaties with Cyprus, Mauritius, and Singapore due to grandfathering provisions. 

What is the Principal Purpose Test (PPT)? 

• Principal Purpose Test: The PPT is part of international tax rules aimed at preventing misuse of tax treaties.  
  • Under the Base Erosion and Profit Shifting (BEPS) framework, the PPT checks whether a business arrangement is genuinely commercial or created mainly to avoid taxes.  
    • If the primary purpose is tax-saving, treaty benefits can be denied. 
• New Guidelines: 
  • Applicability of PPT: The PPT provisions will apply prospectively, meaning past investments, particularly those before 1st April 2017, will remain unaffected and not face retrospective scrutiny. 
  • Grandfathering Provisions: Treaties with Singapore, Mauritius, and Cyprus are excluded from PPT due to specific bilateral commitments. 
    • Investments made under these treaties before specific dates will follow the original treaty provisions. 
  • Reference to Global Standards: The new guidelines encourage tax authorities to refer to international tax frameworks, including the BEPS Action Plan 6 and the UN Model Tax Convention, when applying the PPT provisions.  

What are Double Tax Avoidance Agreements (DTAAs)? 

• About: DTAA is a treaty between two countries that helps taxpayers avoid double taxation.  
  • For example, an NRI earning dividends from investments in India would typically face taxes in both India and the US. However, with a DTAA, they are taxed in only one country based on the agreement's terms.  
    • This helps NRIs avoid hefty taxes in two nations and reduces tax evasion. 
  • DTAAs cover various income types, including business profits, dividends, interest, royalties, and capital gains.  
  • Each agreement specifies which country can tax certain income, usually granting the primary right to the country of origin while allowing the residence country to tax at a reduced rate. 
• India and DTAAs: India has signed 94 DTAAs with countries including Australia, France, Germany, Japan, Mauritius, the USA, and the UK.  

Base Erosion and Profit Shifting (BEPS) Framework 

• The BEPS framework, an initiative led by the Organisation for Economic Co-operation and Development (OECD) with the backing of the G20, seeks to address global tax avoidance strategies employed by multinational corporations. 
  • BEPS refers to strategies where multinationals  minimize tax by shifting profits to low-tax regions or creating payments that can be subtracted from taxable income, like royalties. 
  • BEPS Framework established in 2016, it unites 147 countries (including India) to tackle tax avoidance. The framework consists of two key pillars: 
    • Pillar One: Reallocation of profits to countries with consumer presence. 
    • Pillar Two: Global Minimum Corporate Tax (GMCT) of 15% for MNEs. 
• BEPS Action 6 tackles treaty shopping and sets minimum standards for the BEPS Inclusive Framework members.  
  • It provides rules to prevent treaty abuse and guides jurisdictions on tax policy considerations before entering into tax agreements. 

UN Model Tax Convention 

• It provides a framework for negotiating bilateral tax treaties. It aims to avoid double taxation and prevent tax evasion, with a focus on developing countries.  
• It offers guidelines on taxing rights between countries and standardizes rules for income taxation, helping nations resolve cross-border tax issues. 

UPSC Civil Services Examination, Previous Year Questions (PYQs) 

Prelims

Q. With reference to India’s decision to levy an equalization tax of 6% on online advertisement services offered by non-resident entities, which of the following statements is/are correct? (2018)

1. It is introduced as a part of the Income Tax Act. 
2. Non-resident entities that offer advertisement services in India can claim a tax credit in their home country under the “Double Taxation Avoidance Agreements”. 

Select the correct answer using the code given below: 

(a) 1 only 
(b) 2 only  
(c) Both 1 and 2  
(d) Neither 1 nor 2 

Ans: (d)