On November 24, 2016, the OCED/G-20 lead Base Erosion Profit Shifting (“BEPS“) introduced the formulation of Multilateral Instruments (“MLI“) in an effort to close gaps in international tax laws. In doing so, MLI incorporates key tax issues such as hybrid mismatch, treaty abuse, permanent establishment, and dispute resolution.
The MLI went into force on July 1, 2018. Accordingly, where two countries have a double tax avoidance agreement (“DTAA“) and both are signatories to the MLI, the MLI supplements their DTAA, and their DTAA becomes a Covered Tax Agreement (“CTA“).
When addressing the residency status of foreign corporations, the MLI suggests that tax treaties should incorporate one of three residency rules in an effort to address treaty abuse.
Countries that are signatories to the MLI are to implement one of the following three minimum standards:
- 1. A principal purpose test (“PPT”);
- 2. A PPT supplemented with either a simplified or a detailed limitation on benefits (“LOB”) provision; or
- 3. A detailed LOB provision, supplemented by a mutually negotiated mechanism to deal with conduit arrangements not already dealt with in tax treaties.
The PPT sets out as a default test, providing that no benefit under the CTA shall be granted if it is reasonable to conclude that obtaining that benefit was one of the principal purposes of any arrangement or transaction that resulted directly or indirectly in that benefit.
On June 2, 2017, India signed the MLI Convention. Typically, to determine whether a foreign company is a resident of India, India’s rules on the place of effective management (“POEM”) apply. (click here to learn about India’s application of POEM rules to foreign companies). Now, however, where the foreign company is a citizen of a signatory country, the MLI minimum standard will apply to determine the application of benefits of the tax treaty with India. Under this analysis, India has decided to utilize the minimum standard of utilizing a simplified LOB provision in its CTA. India has also considered supplementing the LOB provision with the PPT, and because India is one of 12 countries to apply a simplified LOB, it is likely that India will do so.
Note, however, that the residency tie-breaker rules found in international tax treaties will remain applicable for countries who are signatories to the MLI, but reserve its application to its CTAs, such as Singapore, France, and Luxemburg. Additionally, the MLI rules will be inapplicable to countries that are not signatories, such as the US. Accordingly, when determining benefits under US tax treaties, the mutual agreement procedures will still apply.
Whitepaper: The Interaction of Indian and US Tax Laws
To learn more, please read our whitepaper titled, Interaction of Indian and U.S. Tax Laws, which highlights the interaction of U.S. and Indian tax obligations for ultra-wealthy Indians in the US, Indian businesses expanding into the US, and vice versa.