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India Income Tax Appellate Tribunal Rules on Taxation of Income from Indian Depository Receipts Deriving Value from Foreign Companies — Orbitax Tax News & Alerts

India's Income Tax Appellate Tribunal (ITAT) recently issued a decision concerning the taxation of income from Indian depository receipts (IDRs) as Indian-source income when the underlying value of the instruments is derived from foreign companies. The case involved a tax resident of Mauritius that invested in IDRs issued by the India Branch of Standard Chartered Bank (SCB), the underlying assets of which are shares of SCB UK. During the 2014-15 financial year (2015-16 assessment year), the Mauritius investor received payments amounting to INR 97.4 million from SCB India for the IDRs. The Indian tax authority determined that the payments constituted dividend income for the Mauritius investor that was taxable in India, which was appealed.

In its decision, the ITAT found that the Mauritius investor was not a shareholder, and the payments were not dividends. Rather, the investor is only entitled to the benefits of the shareholding net of fees, taxes, duties, charges, expenses, and costs, while the actual recipient of dividends from SCB UK is the SCB India Branch that issued the IDRs. Although not taxable as dividends, the ITAT did find that the payments are taxable India-source income given that the income has a business connection in India considering the function of the SCB India Branch as the depository.

In this case, the payments would be taxed according to the provisions of the 1982 India-Mauritius tax treaty. Because the payments are not considered dividends subject to Article 10 (Dividends) and income from IDRs is not otherwise covered by the treaty, the payments are to be taxed according to the provisions of Article 22 (Other Income). In the year concerned, Article 22 provided that, subject to certain exceptions, other income of a resident of a Contracting State not expressly dealt with in the foregoing articles of the treaty shall only be taxable in that Contracting State, meaning that the IDR payments were exempt. It is further noted, however, that such IDR payments could be taxed in India from 1 January 2017 according to the revisions made by the 2016 protocol to the treaty. These revisions include the addition of a new paragraph 3 in Article 22 providing that, notwithstanding the provisions of paragraphs 1 and 2, items of income of a resident of a Contracting State not dealt with in the foregoing Articles of the treaty and arising in the other Contracting State may also be taxed in that other State.