“Most Favored Nation” clause – Important ruling of the Hon’ble Supreme Court of India

Posted On - 13 December, 2023 • By - Vidushi Maheshwari

The Hon’ble Supreme Court of India (Apex Court) has recently pronounced a landmark ruling[ᶦ]  on treaty interpretation with a specific reference to Most Favored Nation (MFN) clause contained in various Double Taxation Avoidance Agreements (DTAA) entered by India with Organization for Economic Cooperation and Development (OECD) member countries.

The Apex Court ruled that a Notification under Section 90(1) of the Income-tax Act, 1961 (IT Act) is a necessary condition to give effect to a DTAA or any Protocol issued under the relevant DTAA (such as the MFN clause), to seek benefit of any beneficial clause extended to a third country DTAA. Also, the MFN clause can be invoked only if the third country was an OECD member country while entering into the DTAA with India.

What is an MFN clause, its relevance, and the present dispute?

Before we proceed to discuss the ruling of the Apex Court, it is important to understand the concept of MFN with reference to DTAA and evolution of this dispute.


If a country (first state) incorporates an MFN clause in its DTAA with any country (second state), it obligates upon itself to extend beneficial treatment to the second state, which the first state has agreed with a third state at a later date. The benefit is extended only if the DTAA with the third state has been entered into after the DTAA with the second state has been executed. Generally, a reduced rate of tax or a restricted scope for taxation is agreed between the first and the third state, which benefit is extended to the second state. Thus, with the MFN clause, even though the reduced rate of tax or restricted scope for taxation was not agreed upon in the first instance between the first state and second state, the same is extended pursuant to such MFN clause.

Background of the controversy

One of the reasons for the current controversy to arise is that India had extended a reduced rate of tax on dividends to Slovenia, Colombia, and Lithuania and certain countries with existing DTAA (Netherlands, France, and Switzerland) invoked their MFN clause and issued a decree/ bulletin to provide that the DTAAs will stand modified for such reduced rate of tax on dividends. The issue whether the reduced rate of tax can be claimed by a resident of Netherland or not, based on the MFN clause arose before the Hon’ble High Court of Delhi in case of Concentrix Services Netherlands B.V. vs. Income-tax Officer and Optum Global Solutions International BV vs DCIT[ᶦᶦ]. The Revenue in this case had raised two concerns, firstly that the benefit of reduced rate of tax arising from the DTAAs with Slovenia, Colombia, and Lithuania cannot be claimed, as these countries were not members of OECD when the DTAA was entered into. Secondly, a Notification amending the DTAA (of Netherlands) is a necessary condition to claim benefit of the reduced rate of tax.

The Hon’ble High Court of Delhi rejected both these arguments and held that the taxpayers are entitled to the reduced rate of tax (arising on account of the DTAA with Slovenia, Colombia, and Lithuania). The High Court also interpreted the term “is” from the phrase “which is a member of the OECD” (as appearing in the Protocol), by indicating that it describes the state of affairs that should exist not necessarily at the time when the subject DTAA was executed but when a request is made to claim the benefit. Similarly, the Hon’ble High Court of Delhi following the ruling in Concentrix (supra), allowed benefit of the reduced rate of tax in the case of Nestle SA vs Assessing Officer[ᶦᶦᶦ], as well.

As the claim for applicability of reduced rate of tax raised concerns (leading to litigation till the High Court), various clarifications were sought on applicability of the MFN clause from the Central Board of Direct Taxes (“CBDT”). To clarify this issue, CBDT issued Circular No 3 of 2022 dated 03 February 2022 restricting the scope of MFN clause contained in a DTAA with the following observations:

  • Decrees/ bulletin are unilateral actions taken by the treaty partners and do not represent a shared understanding.

  • In order to seek benefits, the third state should be an OECD member on the date of entering into the DTAA as well as on the date when the benefit is being sought.

  • A Notification under Section 90(1) of the IT Act is a condition precedent to seek benefit under the MFN clause.

Ruling of the Hon’ble High Court of Delhi in the case of Concentrix and Nestle, along with other matters[ᶦᵛ] was challenged before the Apex Court.  Questions before the Apex Court were two-fold:

a) Whether the MFN clause applies even if the third state with which India has entered into a DTAA is not an OECD member (at the time of entering into such DTAA)?

b) Whether the MFN clause in a DTAA can be invoked only through a separate notification or whether such provision operates automatically once a preferential tax rate benefit is extended to a third state?

Ruling of the Apex Court:

A)    Requirement of being an OECD member – interpretation of the term “is”

The interpretation adopted by the High Court was rejected and the Apex Court held that the term “is” has a present signification and it derives meaning from the context. This issue became relevant on account of the fact that all the countries relied upon by the taxpayer (Slovenia, Colombia, and Lithuania) were not members of OECD when the DTAA was entered and had become members of OECD only at a later date. Accordingly, the Apex Court concluded that when a third state enters into a DTAA with India, it should already be a member of OECD, for the earlier treaty beneficiary to claim parity. Thus, obtaining OECD membership at a later date will have no significance and cannot be the basis to invoke the MFN clause.

B)    Is there an automatic enforceability of a Protocol to the DTAA?

To arrive at a conclusion on this issue and to demonstrate that there was an established and clear precedent, of behavior, in relation to treaty practice and interpretation, the Apex Court deep dived into the India-Netherlands DTAA[ᵛ] protocol and notifications. It observed that the Protocol to India-Netherlands DTAA incorporated an MFN clause to allow for lower tax rate and restricted scope with respect to dividends, interest, royalty, and fees for technical services, when India allows such benefit to other nations, who are members of OECD.  Post this Protocol, India had extended certain lower tax rates to Germany, Sweden, Switzerland, and USA. To give effect to the protocol, a notification was issued (under the India-Netherlands DTAA), wherein the benefits were made effective from different dates (retrospectively), corresponding to the dates which India had agreed with these other countries.

The Apex Court accordingly held that so far as India-Netherlands DTAA is concerned, there is an established and clear precedent, of behavior, in relation to treaty practice and interpretation. This was not contested and is a matter of record. It should be noted that similar notifications were not issued under the India-Netherlands DTAA, when India signed the DTAA with Slovenia, Colombia, and Lithuania.

Basis the above discussion, the Apex Court held that entering into a treaty or a protocol does not result in its automatic enforceability. The treaty concerned has to be legislatively embodied in law, through a separate statute, or gets assimilated through a legislative device, i.e., notification in the gazette, based upon some enacted law. Absent this step, treaties and protocols are per se unenforceable.  Accordingly, any benefits to be availed under the MFN clause should necessarily be backed by a notification to give effect to the Protocol/ change in terms of the DTAA.

Our thoughts

Though this ruling of the Apex Court has put to rest a controversial issue concerning MFN clause and given a finality to the issue; the implications can have far-reaching impact on the taxpayers and the manner in which each DTAA is interpreted. It will certainly impact entities/ individuals who would have either not paid taxes or paid taxes at a lower rate of tax by seeking a benefit under the MFN clause.  This will have an impact on the pending assessments, and may also trigger initiation of re-assessment proceedings, wherever the limitation period permits.

The fact remains that on a literal reading and the treaty interpretation as has been prevailing, a taxpayer by seeking a benefit, pursuant to the MFN clause, has not committed any default or tax avoidance. Thus, it would be interesting to see if the Indian Government will now issue the required notifications retrospectively to allow the taxpayers to take benefit of the MFN clause.

AuthorVidushi Maheshwari, Partner – Direct Tax

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[i] Assessing Officer vs Nestle SA (TS-616-SC-2023)

[ii] TS-286-HC-2021DEL

[iii] TS-446-HC-2021DEL-NESTLE_SA

[iv] The other fact pattern discussed by the Apex Court was in the case of Steria India, wherein the taxpayer, a resident of France sought to avail benefit of the restricted scope of fees for technical services under the India-UK DTAA

[v] Similar discussion was also taken in the case of India France DTAA and India Switzerland DTAA