Dividend and Interest

1. Dividend and Interest 7 June 2013

2. Article 10 of the UN MC – A snapshot • Article 10(1) – Distributive Rule • Article 10(2) –Taxing rights of Source Country • Article 10(3) – Definition of ‘Dividend’ • Article 10(4) – Exclusion in case of PE • Article 10(5) – No Extra-territorial taxation

3. Article 10(1) – Distributive Rule • Country of residence of the ‘beneficial owner’ has the right to tax • Right is not exclusive – Source Country also can tax it in certain circumstances • Taxation is of dividend ‘paid’ – necessary to consider meaning of the term

4. ‘Paid’ – Meaning • Means the fulfillment of the obligation to put funds at the disposal of the shareholder in a manner required by contract or custom • Definition very wide • Section 43(2) of the Income-tax Act – ‘Paid’ means actually paid or incurred according to the method of accounting upon the basis of which the profits or gains are computed under the head ‘Profits and Gains of Business or Profession’

5. Article 10(2) – Taxing Rights of Source Country • Source Country can also tax the dividend • Taxation in source country according to its domestic law • Exception - • Beneficial owner is the resident • Limited right to tax in source country on gross basis • Direct Investment by companies • Investment other than direct investment • Does not impact Company’s taxation

6. Article 10(3) – Meaning of ‘dividend • Income from: • Shares …. • Or other rights, not being debt claims, participating in profits • Other corporate rights which is treated as dividend in the source country • Country of residence to follow definition in country of source

7. Article 10(4) - Exclusion in case of PE • Provisions of Paragraphs 1 and 2 not to apply if: • Beneficial owner of dividend • Carries on business/performs independent personal services in the source country • Through a PE/Fixed base in that country • The holding of shares/rights is effectively connected with the PE/Fixed base • Dividend taxable as ‘Business Profit’ • Meaning of ‘Effectively Connected’

8. Article 10(5) – Prohibition of Extra Territorial Taxation • Right of a country to tax dividend declared by a non-resident company restricted • Also prevents imposition of tax on the undistributed profits of a non-resident company

9. Article 11 of the UN MC – A snapshot • Article 11(1) – Distributive Rule • Article 11(2) – Taxing Rights of Source Country • Article 11(3) - Definition of ‘interest’ • Article 11(4) – Exclusion in case of PE • Article 11(5) – ‘Source’ of interest • Article 11(6) – Related Party Transactions

10. Article 11(1) – Distributive Rule • Interest ‘arising’ in a Contracting State and ‘paid’ to a resident of the other State… • Home Country’s right not exclusive – Source Country may also tax the interest • Need to consider meaning of: • Arising • Paid

11. ‘Paid’ – Meaning • Means the fulfillment of the obligation to put funds at the disposal of the creditor in a manner required by contract or custom • Definition very wide • Section 43(2) of the Income-tax Act – ‘Paid’ means actually paid or incurred according to the method of accounting upon the basis of which the profits or gains are computed under the head ‘Profits and Gains of Business or Profession’

12. Article 11(2) – Source Country’s right of taxation • Source Country may also tax the interest • Taxation according to source country’s domestic law • Exception: • Beneficial owner of interest is resident… • Limited right of source country to tax interest on ‘gross’ basis • Mode of application of this limitation

13. Article11(3) – Definition • Income from ‘debt claim of every kind’ • Income from government securities and from bonds and debentures • Includes premium and prizes attached • Excludes penalties/charges for late payment

14. Domestic Law Definitions • Interest under section 2(28A) of the Act… • Interest payable in any manner in respect of moneys borrowed or debt incurred (including a deposit, claim or other similar right or obligation) and includes any service fee or other charges in respect of any credit facility that has not been utilized • Interest on Securities under section 2(28B) of the Act… • Interest on any security of the Central Government or State Government • Interest on debentures or other security for money issued by or on behalf of a local authority or a company or a corporation established under a Central, State or Provincial Act

15. Article 11(4) – Exclusion in case of PE • Provisions of Paragraphs 1 and 2 not to apply if: • Beneficial owner of interest • Carries on business/performs independent personal services in the source country • Through a PE/Fixed base in that country • The debt claim in respect of which interest is paid is effectively connected with the PE/Fixed base • Interest taxable as ‘Business Profit’ • Meaning of ‘Effectively Connected’

16. Article 11(5) – Source of Interest • Interest ‘deemed to arise’ in a Contracting State if: • Payable by a resident of that state wherever actually arising • Exception: • Payer has a PE • Liability to pay connected to the PE • Payment ‘borne’ by PE • If these fulfilled, interest is deemed to arise in the country where PE is situated • Contrast with deeming fiction in Section 9(1)(v) of the Act

17. Section 9(1)(v) of the Act – Deeming fiction • Interest is deemed to accrue or arise in India if payable by: • The Government • A resident except where the borrowing/debt Is utilized for the purposes of a business carried on by such resident outside India • A non-resident only if borrowing/debt is utilized for the purpose of a business carried on in India or earning of a source of income in India

18. Article 11(6) – Related Party Transactions • Adjustment of the amount of interest paid when: • There is a special relationship between payer of interest and the beneficial owner of the interest or between the two of them and a third person • There is an excess payment on account of that special relationship • Arm’s length interest (only) to be taxed in a limited manner in the Source Country • Excess to be fully taxed in Home Country as per it’s domestic tax law

19. Thank you