Effective connection with permanent establishment determines whether treaty interest falls under business profits rather than concessional withholding treatment.

Interest on suppliers' credit remained taxable at the concessional gross rate under Article 11(2) of the India-Japan DTAA because Article 11(6) did not apply. The decisive test is whether the relevant debt-claim is effectively connected with a permanent establishment so that the interest is attributable to that establishment and falls under Article 7; the mere existence of a permanent establishment, or a general business nexus, is not enough. On the facts, there was no material showing that the debt-claim formed part of the permanent establishment's assets, that economic ownership was allocated to it, or that the establishment played a critical role in earning the interest.

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Issues: Whether interest earned on suppliers' credit was taxable at the concessional rate under Article 11(2) of the India-Japan DTAA, or whether Article 11(6) applied so as to bring the income within Article 7 on the footing that the debt-claim was effectively connected with the assessee's permanent establishment in India.

Analysis: Article 11(2) permits source-state taxation of interest at a capped gross rate, while Article 11(6) excludes that regime only when the beneficial owner carries on business through a permanent establishment and the relevant debt-claim is effectively connected with that establishment, in which case Article 7 applies. The decisive inquiry is not the mere existence of a permanent establishment, but whether the interest income is directly or indirectly attributable to that permanent establishment. A bare or incidental connection is insufficient. On the facts, no material showed that the supplier-credit debt-claim formed part of the permanent establishment's assets, that economic ownership was allocated to it, or that the permanent establishment played a critical role in earning the interest. The revenue did not establish the foundational nexus required to trigger Article 11(6).

Conclusion: The interest income remained taxable under Article 11(2) at the concessional gross rate, and not under Article 11(6) read with Article 7.

Ratio Decidendi: Article 11(6) applies only where the interest-bearing debt-claim is so connected with the permanent establishment that the interest is attributable to it and therefore taxable under Article 7; mere existence of a permanent establishment or a general business connection does not suffice.

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