Treaty override and non-discrimination limits leave domestic expense restriction and foreign company tax rate intact

Where a tax treaty preserves domestic law except to the extent expressly displaced, the profits of a permanent establishment in India remain subject to Indian computation rules, including the restriction on head office expenses under section 44C. Liaison office expenses said to relate only to Indian operations were also not allowed outside that restriction, because their allowance depended on factual allocation and the amended statutory position. The non-discrimination argument against the higher tax rate for a foreign company failed, as the comparison with a co-operative bank was not apt and section 90 clarifies that a higher rate for a foreign company is not discriminatory. The rectification applications were therefore rejected.

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Issues: (i) Whether head office expenses of the assessee bank were restrictable under section 44C while computing profits attributable to the permanent establishment in India under the India-UAE tax treaty; (ii) whether Indian operations liaison office expenses could be excluded from the section 44C restriction or allowed in full under the treaty; (iii) whether the tax rate applicable to the assessee bank could be reduced on the basis of non-discrimination under the India-UAE tax treaty and section 90 of the Income-tax Act, 1961.

Issue (i): Whether head office expenses of the assessee bank were restrictable under section 44C while computing profits attributable to the permanent establishment in India under the India-UAE tax treaty.

Analysis: The treaty provisions were read together. Article 7(3) permitted deduction of expenses incurred for the permanent establishment, but did not expressly exclude the operation of Indian domestic law. Article 25(1) preserved the continued application of the laws in force in India except the convention expressly provided otherwise. On that construction, computation of the permanent establishment's income remained governed by Indian law, including the restriction in section 44C.

Conclusion: The head office expenses remained subject to section 44C, and the assessee's challenge failed.

Issue (ii): Whether Indian operations liaison office expenses could be excluded from the section 44C restriction or allowed in full under the treaty.

Analysis: The plea that these expenses were exclusively for Indian operations did not displace the earlier finding that expenses attributable to the Indian branch or permanent establishment had to be examined under the amended section 44C. The Tribunal found no mistake in the earlier order, which had remitted the matter for fresh consideration of the factual allocation and the amended statutory position. The alternative treaty-based argument also failed because the same treaty interpretation kept domestic law applicable.

Conclusion: The claim for full allowance of liaison office expenses was rejected.

Issue (iii): Whether the tax rate applicable to the assessee bank could be reduced on the basis of non-discrimination under the India-UAE tax treaty and section 90 of the Income-tax Act, 1961.

Analysis: The non-discrimination clause required comparison with a taxpayer carrying on the same activities in the same circumstances, which did not justify comparing a foreign company with a co-operative bank. The Explanation to section 90 clarified that a higher rate of tax on a foreign company is not regarded as less favourable treatment. The arguments based on Article 26 and on the absence of a specific treaty clause were therefore unavailing.

Conclusion: The higher tax rate applicable to foreign companies was upheld.

Final Conclusion: The rectification applications failed in full, and the earlier tribunal order was left undisturbed on all substantive issues.

Ratio Decidendi: Where a tax treaty preserves domestic law except to the extent of an express contrary provision, income of a permanent establishment remains taxable under the domestic restrictions; and the statutory clarification in section 90 prevents a higher tax rate on a foreign company from being treated as discriminatory merely because a comparable domestic rate is lower.

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