Treaty protection for interest income barred transfer pricing adjustment on notional interest under the India-Mauritius DTAA.

Transfer pricing adjustment on notional interest on compulsorily convertible debentures was held unsustainable where the non-resident Mauritius assessee had waived interest and no actual receipt was shown. Article 11(1) of the India-Mauritius DTAA was read as taxing only interest arising in a Contracting State and paid to a resident of the other State, requiring actual payment or receipt rather than hypothetical accrual. Because section 90(1) gives overriding effect to the more beneficial treaty provision, income not chargeable under the treaty could not be brought to tax under the Act, and the transfer pricing machinery under section 92(1) could not be applied to a notional receivable. The addition was deleted.

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Issues: Whether transfer pricing adjustment could be made on notional interest on compulsorily convertible debentures when no interest was actually received by the non-resident assessee, in view of Article 11(1) of the India-Mauritius DTAA and sections 90(1) and 92(1) of the Income-tax Act, 1961.

Analysis: The assessee, a Mauritius resident, had waived interest on the debentures and no actual receipt of interest was shown. Article 11(1) of the India-Mauritius DTAA taxes only interest arising in a Contracting State and paid to a resident of the other Contracting State. The applicable treaty language was held to require actual payment or receipt, not a notional accrual. Since section 90(1) gives overriding effect to the more beneficial treaty provision, income not chargeable on accrual basis under the treaty could not be brought within the charging provision under section 4 of the Act, and consequently the machinery provisions for transfer pricing under section 92(1) could not be applied to a hypothetical receivable amount.

Conclusion: The transfer pricing adjustment on notional interest was unsustainable and the addition was deleted. The issue was decided in favour of the assessee.

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